Active Canadian investors attempt to digest current market conditions in SHURE GTA huddle

A group of active Canadian investors convened by The SHURE Initiative appeared baffled by today's unusual real estate climate, noting they are attempting to 'digest' current conditions. While the investors convened on stage following lunch on the second day of SHURE GTA, they made clear there is still a lot to understand about the unique dynamics in today's market, characterized by strong demand, lack of supply, and an above-average interest rate environment - factors that bode well for the rental growth side of their businesses.

However, on the contrary, the capital markets environment has been challenging due to the rapid rise in interest rates. In addition, while rental rates may be at record levels, operational costs have increased significantly squeezing margins on that extraordinary rental growth.

"There's a need for the market to generally digest what's going to happen from here," according to Ian Husted of Woodbourne Capital Partners. "When you combine all those things, I would look at how the market is still digesting how all those things will impact investment activity due to all these things changing at once."

The investors agreed affordability is increasingly a challenge for the industry. The cost of housing in Canada is likely to surpass the cost of education in post-secondary institutions. Canada's higher education system is well-known for its reasonably priced high-quality degree programs.

Erik Larson oversees acquisitions at Blue Vista Capital Management and has four development projects underway in Kingston, Ontario, home to Queens University and other premier institutions. "Two online, third is topping off next year, and fourth is just out of the ground," said Larson.

Larson said Blue Vista's online Kingston projects have a 99% occupancy rate and have experienced 11% year-on-year rent growth. "Whopping," said Larson.

Despite the demand for Blue Vista's PBSA, Larson was cautious in his comments. "The market is causing us to pause and digest, trying to figure out where projects will land. There are some positives with costs coming down, primarily the taxes, labor materials, not so much interest rates up, of course it's somewhat project by project."

Larson said Blue Vista has a 'very healthy' wait list with about nine months to go in construction on the two remaining Kingston projects.

Larson said Blue Vista has benefited from recent changes in Canadian tax codes and is looking for growth in secondary markets. "I think there's a benefit of targeting some of these tertiary areas. The Kingstons of the world where land is at least cheaper help with the math, but it's still a fine line in this new world if projects can pencil."

However, Larson offered a note of caution to investors in the room. "Great on the operations side, but tough, tough, capital markets."

Husted noted that the recent removal of GST and HST taxes in Ontario has been a tailwind for his efforts. GST is the goods and services tax paid in Canada. In New Brunswick, Newfoundland, Labrador, Nova Scotia, Ontario, and Prince Edward Island, the GST has been blended with the provincial sales tax, the harmonized sales tax (HST).

Legendary Canadian entrepreneur, Warren Yee of Altmaven Capital, asked Henry Morton of Campus Suites about the state of his portfolio and, specifically, the type of rent growth he observed.

"Depending on where the asset is located across the country, rent growth was from 6 to 21% last year," Morton responded. Campus Suites is one of Canada's largest and most creative developers of PBSA.

However, Morton raised an essential question for his investor peers about the costs of operations due to inflation. "But almost as important a question is, what's your NOI growth? Because what we also saw in many markets was somewhere between 6 and 9% Inflation!

Morton said he's forecasting inflation numbers to be more moderate on some expense loads. "If you're getting 10 percent on your expenses and rent growth, you're no further ahead," noted Morton.

The active Canadian investors then shifted to a conversation about attracting external equity investment from the U.S. and Eurozone.

Veronica Green, Vice President at Slate Asset Management, said her firm is just entering the Canadian PBSA arena but is having good conversations with international investors in a market dominated mainly by pension funds. According to Green, the investors look favorably at Canadian PBSA due to less competition, the fast-growing population, and increasing and consistent international and domestic student enrollments.

"Many investors worldwide still see this as a pretty niche market. Pensions still dominate in the core assets. We don't have as deep a banking system or access to credit, but we do have some things that work very well for us," noted Green. "When the question comes up, how do you guys compare to the U. S.? Yes, we don't have the same scale, but it's exactly that metric we can show them - the provision rate."

However, despite her optimism, Green said capital raising is 'pretty tough' in the current macroeconomic environment.

Corey Pacht, Senior Vice President – Investments, Fitzrovia, said the student housing space is robust in Canada, with a lot of opportunity to build an institutional-scaled platform. "I think there's a lot more room for other groups to come in," according to Pacht, who also cautioned the Canadian market will require a lot of education from new investors.

The investors then did a deep dive comparing the interests of the U.S. and Eurozone investors.

"A lot of the U.S. investors are just looking straight to yield on cost, and they're saying it doesn't make sense, but I think some of the European investors, they're, you know, a little bit more interested in the long term holds and building more of a platform," noted Pacht.

Husted concurred with Pacht about the different goals of U.S. and Eurozone investors.

"You have your U.S. investors, and then I'll call it the European investors we talk to regularly, and the conversation is a bit different. With the European investors, there are many more similarities to how some capital markets work in Canada. So, we have lower yields and unlevered returns. The conversations differ because the Europeans initially get more interested in the similarities."

"Oh my gosh! PBSA can potentially be one of the best-performing asset classes in Canada," exclaimed Green of Slate Asset Management.

"It's nascent compared to more mature markets like the U. S. and the U.K., but we've finally got institutional interest. We've got all levels of government talking about a housing supply shortage. We've got these fantastic fundamentals, consistent enrollment, and international student population growth," Green said. "So, why not be optimistic?"