David Geltner, MIT: Q2 2010 MIT/CRE Commercial Property Price Index Up 17%

August 3, 2010

Transaction prices of commercial properties sold by major institutional investors surged over 17 percent in the second quarter of 2010, according to an index developed and published by the MIT Center for Real Estate (MIT/CRE).

The 17.3 percent increase in the transactions-based index (TBI) for the second quarter is very near the all-time quarterly record for the 105 quarters in the index history (since 1984). The record is a 17.8 percent jump in the second quarter of 2005 in the midst of the property boom. However, transaction volume in the investment property population tracked by the index was down for the second month in a row and remains at a very low level by historical standards. “Usually price and volume move together in the property market, so the overall result sends a mixed signal,” said MIT Professor David Geltner, Director of Research at the Center for Real Estate. The latest pricing result puts the index at 159.6, still 31 percent below its mid-2007 peak of 230.26 (against an inception value of 100 in the first quarter of 1984). According to Geltner, “the mixed signal likely reflects the split nature of the U.S. commercial property market these days, with high investor demand for safe investments pushing prices sharply up from the deep bottom for “trophy” buildings — prime properties fully leased out to solid tenants — while distress in the broader commercial property market and concerns about the economic future keep prices down in other segments of the market.”

MIT/CRE publishes not only the price index based on closed deals, but also compiles indices that separately gauge movements on the demand side and the supply side of the institutional property market. The demand-side index tracks the changes in prices that potential buyers are willing to pay (sometimes called a “constant-liquidity” index of the market, because it tracks how much prices would have to change to keep a constant ability to sell as many properties at the same rate of trading volume). “The demand index can be considered a gauge of market sentiment, at least among the all-important buy-side of the market,” said Geltner. That index fell steadily for eight quarters from mid-2007 to mid-2009, to 48 percent below its peak, but then rebounded sharply up 12 percent in the third quarter of 2009. It jumped even more in the second quarter of 2010, rising 17.6 percent, to over 21 percent above its mid-2009 bottom, reflecting the previously noted strong demand for high quality assets viewed as safe investments.

The supply-side index, which gauges the prices property owners are willing to accept, also was up a near-record 17.1 percent. The nearly identical movement on the two sides of the market explains why trading volume did not increase. Geltner noted: “Such a sharp rise in supply-side reservation prices suggests the deep-pocket investors that characterize the TBI property owners are still largely holding properties off the market, not wanting to sell at prices that they still view as depressed, or anyway not wanting to move money from real estate to stocks or bonds in the current economic climate.”

The TBI tracks the prices that institutions such as pension funds pay or receive when transacting commercial properties such as shopping centers, apartment complexes and office towers. The MIT Center’s TBI is based on prices of National Council of Real Estate Investment Fiduciaries (NCREIF) properties sold each quarter from the property database that underlies the NCREIF Property Index (NPI), and also makes use of the appraisal information for all of the current approximately 6,000 NCREIF properties. Such an index — national, quarterly, transaction-based and by property type, and tracking demand and supply as well as prices — had never existed prior to its launch by MIT in February 2006. NCREIF supported development of the index as a useful tool for research and decision-making in the industry.