The Real Estate Stands Alone

Transcription

1 The Real Estate Stands Alone Robert Brazzell, Esq. Executive Vice President, Property Tax Legal Altus Group Toronto, Ontario Stephen H. Paul,Esq. Partner Faegre Baker Daniels, LLP Indianapolis, Indiana 2016 IPT Annual Conference

2 GICS Sector Changes Real Estate is being elevated from an industry to form a new stand- alone sector within the GICS classification hierarchy There will now be a financial services and separate real estate sector 2016 IPT Annual Conference 2

3 What is GICS? The Global Industry Classification Standard was created by MSCI and Standard & Poor s in 1999 and is a four-tiered, hierarchical classification system GICS allows investors to identify and analyze a customized group of companies using a common global standard 2016 IPT Annual Conference 3

4 What is GICS? 2016 IPT Annual Conference 4

5 Implementation of an 11 th Sector, Real Estate There is no guarantee the classification change will be implemented If implementation goes forward, it will occur after market close on August 31, IPT Annual Conference 5

6 Implementation Challenges A lot of people said you can t do this overnight. We have to rewrite some databases, we have to restructure the way we do analyses We also have a lot of exchange-traded-funds and other products that are based on the existing 10 sectors, and we will have to think this through David Blitzer, managing director and chairman of the Index committee with S&P Dow Jones Indices 2016 IPT Annual Conference 6

7 Impact of Sector Classification Changes Financials may become more volatile: Investors using the financial sector as a portfolio building block may find the removal of real estate means they are now exposed to a less diversified, potentially more volatile sector with positive exposure to long-term interest rates IPT Annual Conference 7

8 Impact of Sector Classification Changes Short term volatility: $100 Billion will not move into REITS overnight by September 1, A degree of volatility is expected in the short term as equity managers sell real estate securities to readjust existing portfolios 2016 IPT Annual Conference 8

9 Impact of Sector Classification Changes Lower volatility: When REITs are removed from the financial sector, they will no longer be caught in the trading of financial ETFs, which investors often use to speculate or hedge against risk in the global financial system IPT Annual Conference 9

10 Benefits of Sector Classification Changes (Cohen & Steers) 1. Greater Awareness of real estate as a diversifier: Segmenting real estate analysis and performance may promote awareness of the sector s distinct investment characteristics IPT Annual Conference 10

11 2. Increased demand for listed real estate: A higher profile creates a greater interest in real estate securities, potentially attracting more capital to the sector from both individuals and institutions globally IPT Annual Conference 11

12 3. Lower Correlations: Investors may pay closer attention to the different dynamics of various REIT property sectors such as apartments, offices and shopping centres. Over time, this could result in a wider dispersion of returns across property sectors, enhancing opportunities to add value through active management IPT Annual Conference 12

13 4. An expanding global opportunity set: The global real estate securities universe consists of over 500 companies, representing $1.8 trillion in market capitalization. The higher profile of a dedicated real estate sector could be a catalyst for continued growth of the listed real estate market, providing investors with a wider range of opportunities IPT Annual Conference 13

14 5. Focus on real assets: By providing recognition for REITs, it may elevate the role for real assets, as investors seek to diversify their portfolios, improve their riskadjusted- return potential and hedge against unexpected inflation IPT Annual Conference 14

15 Rationale for the creation of Real Estate as a Sector The Real Estate Industry is on a growth trajectory: The Real Estate Industry Group represents 6% in terms of number of companies (4% market capitalization) of GICS Direct. The on-going specialization of companies in real estate and the need for real estate asset owners to conduct performance attribution and analysis creates a further opportunity to elevate real estate to the Sector level IPT Annual Conference 15

16 Growth Facilitates Creation of Sector Until 2006, there were two Sub-Industries in the Real Estate Industry Group, under the financial sector (REITs and Real Estate Management and Development In 2006, in order to bring more granularity, the REIT Sub-Industry were broken down into 7 Sub-Industries based on property type 2016 IPT Annual Conference 16

17 Mechanisms of Value of Real Estate There are three approaches to the valuation of Real Estate: 1. The Cost Approach 2. Sales Comparison Approach 3. The Income Approach 2016 IPT Annual Conference 17

18 Mechanisms of Value of Real Estate Funds Unlike traditional real estate, Real Estate Funds are traded on stock exchanges, allowing investors to diversify their portfolio, without being locked in long-term Many factors affect the value of a REIT s share price. Especially, earnings tied to generally predictable and growing streams of rental revenue and a price-earnings multiple assigned by the marketplace 2016 IPT Annual Conference 18

19 Mechanisms of Value of Real Estate Funds Fundamentals include demographic factors such as population size, population growth, employment growth, construction and the level of overall economic activity While differing from region to region, all of these factors typically have a direct impact on rents and occupancy rates, which affect projected earnings and property values IPT Annual Conference 19

20 Net Asset Value Calculation Many REIT analysts look at net asset value (NAV) as a reference point for the valuation of a company NAV equals the estimated market value of a REIT s total assets (mostly real property) minus the value of all liabilities When divided by the number of common shares outstanding, the net asset value per share is a useful guideline for determining the appropriate level of share price 2016 IPT Annual Conference 20

21 Property Index Classification Property Index constituents are classified to identify specific property types: S&P Global property peer Groups Diversified Hotel/ Resort & Entertainment Industrial Office Healthcare Retail Storage Specialty Residential 2016 IPT Annual Conference 21

22 Potential Impact on Assessment Values Only if being a separate sector actually moves the market Market value= the standard of valuation An overall global improvement will positively impact assessment values High water raises all ships 2016 IPT Annual Conference 22

23 Indices in Valuation Appeals No court or board has yet applied the S&P Real Estate Sector to a property tax assessment appeal. However, courts and boards have used (and criticized the use) of various other indices, which may indicate how they will respond to the new index once it is active IPT Annual Conference 23

24 Case-Shiller Index Case-Shiller Home-Price Index measures changes in the value of residential real estate. Nationwide index Indices for 20 metropolitan regions 2016 IPT Annual Conference 24

25 Use of Case-Shiller Index Cherry v. St. Louis County Assessor (Mo. Tax Comm n 2013) Taxpayer argued Index proved that home prices had declined, to establish value that would have been paid. Commission rejects use of Index. Trend in 20 other cities proves nothing relative to single home in Wildwood, MO. National data not sufficiently related to subject property IPT Annual Conference 25

26 Use of Case-Shiller Index Dedon v. King County Assessor (Wash. BOTA 2010) Taxpayer argued 1/1/08 value should be lower than 7/31/07 value because of changed market conditions (Index as evidence). BOTA says national statistics not relevant. Adjustments must be supported by appropriate sales evidence (e.g. paired sales). National data not relevant to single property IPT Annual Conference 26

27 Use of Case-Shiller Index Hoogerwerf v. Island County Assessor (Wash. BOTA 2009) Taxpayer used Index (metro area) to show market changes from 1/1990 to 7/2008. BOTA says Seattle metro market is different than Island County market. Metro area data not relevant to local market IPT Annual Conference 27

28 S&P 500 Index S&P 500 Index gauges large-cap U.S. equities. Made up of 500 leading companies $7.8 trillion benchmarked to index 2016 IPT Annual Conference 28

29 Use of S&P 500 Index Liberty Holdings v. Custer County BOE (Neb. Tax Eq. Comm n 2014) Taxpayer computed cap rate using, in part, yield on S&P 500. Commission says not clear that taxpayer correctly determined a market derived cap rate of any relevance to Nebraska real property. Marketwide equity data not relevant to real property in particular state IPT Annual Conference 29

30 Use of S&P 500 Index Iowa Rule In valuing Section 42 low income housing, requires income approach in some cases. To derive the equity rate, Iowa requires the use of a Capital Asset Pricing Model. Return on the market is calculated as the average return for Merrill Lynch Universe and S&P IPT Annual Conference 30

31 CPI/PPI Consumer Price Index Measure of the average change over time in prices paid by consumers Producer Price Index Measure of the average change over time in selling prices received by producers Sub-classifications for various industries and commodities 2016 IPT Annual Conference 31

32 Use of CPI/PPI Edward Rose of Ind. v. Pleasant Twp Assessor (Ind. Bd. Tax Rev. 2006) Indiana required 2002 assessments to reflect conditions in 2002 but value in 1999 dollars. IBTR allows CPI as means to trend a value on an assessment date back to a valuation date. Change in CPI captures physical existence on one date and value of the dollar on another IPT Annual Conference 32

33 Use of CPI/PPI Horizon Tele-Communications v. Kan. Bd. of Tax App. (Kan. S.Ct. 1987) Board trended personal property costs using CPI; on appeal, taxpayer says PPI sub-index more appropriate. Use of a general index is the best guide to FMV for a class of property. CPI not perfect, but PPI sub-index was too specific IPT Annual Conference 33

34 Lessons for Use of New Index Indices are often used to trend between two dates, or to show trends over time. National data, or even metro area data, may not be considered relevant to a particular market or property. Taxpayer must show how and why the index captures the subject property and its market IPT Annual Conference 34

35 Discussion and Q&A Has the real estate industry recovered enough to warrant a Sector under GICS or is it too small? Should Mortgage REITs remain classified in the Financial Services Sector even if Real Estate is to become its own Sector? How much lead time is appropriate if a new GICS Sector is created? 2016 IPT Annual Conference 35