2019 was a banner year for prosperity. The Credit Suisse Research Institute reported 2.6 percent year-over-year growth in global wealth (to $360 trillion USD) and a 1.2 percent increase in wealth per adult, pushing that average to a record high of nearly $71,000 USD. And Wealth-X, which tracks very high net worth (VHNW) individuals, saw that cohort expand by 10 percent. Combined, this population of 2.7 million commands over $26.6 trillion USD in equity.
Entering 2020, all signs seemed to indicate these upward trends would continue. Then the novel coronavirus outbreak in China’s Hubei province became a global pandemic, upending economic projections the world over. Amid all this uncertainty, however, firm details about the scope and scale of the disruption caused by COVID-19 are now beginning to emerge.
In China, efforts to maintain an annual growth target of ~6 percent are colliding with the reality of a very rough start to 2020. Factory production plunged by nearly 14 percent in January and February (compared to the same period in 2019). Meanwhile, the National Bureau of Statistics (NBS) reports that “[i]nvestment slumped 24.5 percent in January-February year-on-year while private sector investment dived 26.4 percent.”
With China’s factories unlikely to be back online fully until mid-April, it remains to be seen how global supply chains will ultimately be affected. The NBS remains confident that the nation’s economy will recover, referencing Beijing’s swift and decisive public health response as well as its commitment to promoting pro-growth policies.
But Bill Bishop of Sinocism takes a different perspective. Citing reports that China has promised to implement supply-side structural reforms to address lagging consumer confidence (down 20 percent since December 2019), he warns that these measures may prove to be insufficient. “It has barely been three months since the outbreak started hitting China hard,” Bishop says. “The stresses inside the system are immense, and the economic downturn that is in many ways now out of [the Chinese government’s] control is likely to exacerbate those stresses considerably, with very unpredictable results.”
What to Expect in the United States
Even as China is reopening for business, COVID-19 has brought the American economy to a virtual standstill. Benjamin C. Halliburton, writing for Forbes, notes that the countermeasures taken to curtail the spread of infection — shelter-in-place, travel bans, non-essential business closures — could mean that “U.S. GDP will fall 5-10 percent over the period of March 1st to June 30th of 2020.”
However, Dan Healy, CEO of Civitas Capital Group, recommends that investors look beyond this statistic. “The drop in GDP is a certainty, but what matters most is the length of time between now and recovery,” he explains. “Governments and central banks across the globe are taking COVID-19 very seriously and are proactively implementing measures to ease the economic burden for companies and individuals. At the end of March, the U.S. implemented a $2 trillion USD relief/stimulus plan. The passage of this law, known as the CARES Act, has already helped put markets at ease, and Congress is already working on at least one additional relief bill. It remains to be seen whether this legislation, or subsequent policy measures, will help the U.S. avoid a prolonged slowdown. But that is the ultimate goal.”
Indeed, what most unknown is how long businesses (especially restaurants, hotels, and transportation centers) may remain shut down in efforts to slow the spread of COVID-19. Halliburton, looking to China, expects the U.S. will return to “normal economic activity” by 2021. Meanwhile, Akesson notes that payroll, retail, and housing start numbers for 2019 all point to the inherent strength of the American economy — but that recovery will likely lead to a “new normal.”
“It is possible that areas of the economy and the way people conducted business and their daily lives may not revert to what we think of as normal. That alone punctuates any prediction about which sectors and subsectors will be most impacted with a question mark,” Akesson says. “For example, will shared coworking space or the gig economy continue to grow with the COVID-19 era fresh in people’s minds?”
It’s difficult to plan for the unexpected, especially when the unexpected takes the form of a “black swan” event. Experts agree, however, that high-quality, diversified portfolios actively managed by skilled, level-headed investors are better equipped to weather stormy economic climates. In the words of Dr. David Kelly: “No matter how volatile financial markets are in the weeks ahead, opportunities will emerge for investors who can think and act with discipline in an increasingly emotional environment.”
The velocity at which information moves in a crisis tends to amplify that emotion. COVID-19 news arrives on a near-hourly basis, sending ripples through markets. Yet this flow of information presents opportunities as well as challenges. As Patrick Henry at Deloitte writes, “The COVID-19 outbreak may [require investors] to go beyond their comfort zones to create and utilize information from new sources in time cycles that have not been seen in the past.”
Civitas’ Akesson echoes this point, observing that latency must be factored into analyses of even the latest numbers. “The stock market typically declines sharply before a recession is officially announced, as many macroeconomic indicators would have already deteriorated and signaled trouble ahead. For the same reason, markets tend to bottom out and bounce back around the time a recession is officially called, as investors look forward to a subsequent recovery.”
Some experts claim that the U.S economy has already entered a recession. According to Akesson, such a declaration may be premature. “The technical definition of a recession is two consecutive quarters of GDP decline,” he says. “But, again, GDP is a lagging indicator. Hence the need to examine market indicators, unemployment, and other indices, then measure their impact on GDP. Rather than frame the conversation around recession, I prefer to discuss present conditions as a temporary, if abrupt, slowdown. Doing so allows the discussion to turn to restarting the economy — and, by extension, what the resulting rebound will resemble: a V, a U, or something more like Nike’s trademark swoosh.”
Whether a recession is on the horizon or not, investor activity over the last decade has transformed American commercial real estate (CRE) into a highly resilient asset class. Certainly, concerns persist that the hospitality, service, and retail sectors will bear the brunt of the COVID-19 outbreak as long as consumers stay home. Still, 2019’s favorable hospitality landscape suggests that outlooks for that industry have reason to remain optimistic.
The hotel industry saw record-breaking growth in 2019 that speaks to long-term viability, even in the face of oversupply. Moreover, many industry stakeholders were already preparing for a slower 2020 before COVID-19. JLL’s H1 2020 Construction Outlook report bears witness to this. Of the firms surveyed, between 40 and 60 percent said they anticipate hotel activity will continue to taper off over through mid-2021. This tightening of inventory, coupled with any market corrections affecting hotel values, should ease lingering supply concerns.
But is recovery inevitable? According to a poll conducted by The Lodging Investment Council, “27 percent of respondents predict a full recovery of net operating income for the hotel industry within six months. An additional 48 percent said they expect full normalization within six months to a year.”
Austin Khan isn’t so sure. He is a Managing Director at Civitas and portfolio manager for Civitas Pretium Fund, a private equity fund focused on value-added select service hotel acquisitions. “I’ve seen these predictions and I sure hope they are right, but we are taking a more conservative approach with our lodging portfolio. We are planning for a return to regular operations in 12-18 months, assuming no recurrence of the shelter-in-place measures.”
It also bears noting that COVID-19 has the potential to shift the competitive landscape for hotels. Their industry’s leading disruptors — short-term rentals — have themselves been disrupted, and some may lack the infrastructure or financial depth to recover. In March 2020, Airbnb extended its “extenuating circumstances policy” to allow concerned renters to cancel their bookings and take full refunds on their deposits. Doing so shifted the financial burden to property hosts, and they promptly registered their displeasure with that outcome. Airbnb has now put its plans to go public on hold and is asking for government assistance.
Elsewhere in CRE, prognoses are cautious but not dire. “CRE capital markets have been less reactionary than the stock market,” writes National Real Estate Investor. Meanwhile, a survey conducted by AFIRE/Graaskamp Center reveals that two of the top three global cities where investors would like to increase their CRE investment exposure are located in the United States: Los Angeles and Boston.
History may be on CRE’s side as well. “Non-American interest in U.S. properties follows an established pattern,” Bisnow reports. “In times of crisis — economic, political, or otherwise — investors from around the world often turn to U.S. assets, which are perceived as more stable than in other places.”
Overall, with interest rates low and spreads widening, U.S.-based CRE offers investors distinct opportunities, especially in needs-based property types such as industrial, healthcare, and, most notably, multifamily. CBRE anticipates that, although multifamily permits and construction starts will likely dip in 2020, suburban developments will continue to outperform those in urban areas, “maintaining lower vacancy and achieving higher rent growth.”
In closing, Akesson emphasizes that “good wealth management entails proper risk management. Right now, risk perceptions are being reshaped across asset classes in public as well as private markets. This puts into question how quickly markets and assets will stabilize, and if there will be a fundamental reset in how those markets asses risk. Consequently, the extent to which investors will need to operate differently post-crisis remains to be seen.”
Civitas Capital Group is a global alternative investment manager with $1.7B AUM. Civitas offers compelling, niche opportunities in U.S. real estate, lodging, and alternative credit designed to create opportunities that enrich communities, investors, and employees alike. Driven by relentless creativity, Civitas digs deeper to uncover opportunities that others miss. Civitas was founded in 2009 by Daniel J. Healy and Rafael Anchia and is proudly based in Dallas, Texas.
Certain statements contained in this presentation constitute “forward-looking statements” and such statements do not, nor are they intended to, constitute a promise of actual results. Such forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause actual events or results or the actual performance to differ materially from those reflected or contemplated in this presentation. No representation or warranty is made as to future performance.
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