During 2018, Tidegate Capital reported a solid year of returns, as we exited a property located in the Tampa Bay area at a 19% IRR, representing a 48% total return for the investors. We continued to expand our holdings, and were able to acquire some exciting opportunities on the East Coast of FL, to compliment our Florida West Coast presence.
The Real Estate and rental markets in the MSA’s we follow performed generally as we had expected, with slow but steady rental increases accompanied by modest improvements in pricing. Additionally, Cap Rate compression continued and product stabilization improved for much of the year. However, by year-end, it became obvious that sellers were expecting Cap Rates to continue to grind lower, with the result that many of the opportunities that presented themselves did not trade as buyers opted to wait patiently for the new year.
Historically, mortgage rates remain low and housing starts, while elevated, have not yet been able to catch up to demand post the Great Recession. (see chart below) Unfortunately, the cost of housing inputs has limited production in the areas where housing is needed most: workforce apartments and starter homes. It is likely that we will see an uptick in manufactured housing product to help offset the supply shortage in those markets, though here at Tidegate Capital we will continue to focus on markets with limited in-fill capacity and hence limited supply coming on-line.
Financial Markets Recap
Significant equity and bond market volatility in 2018 drove home the point that equity and bond markets, irrespective of current economic conditions, often move in very unpredictable ways. Trade wars, the government shutdown, a general global slowdown and major wildfires in Northern California all impacted the economy with the latter apparently forcing the potential bankruptcy of Pacific Gas and Electric. Clearly the news cycle in 2019 provided a never-ending unpredictable input to the Markets decision tree.
Additionally, the Federal Reserve raised rates aggressively and certainly not as judiciously as we would have preferred. However, at this time their latest signal is for a more gradual increase in tightening. With respect to the Fed rate hikes, we also believe that the December increase was a forced issue - the Fed needed to prove their independence after President Trump criticized the speed and timing of the tightening. Perhaps a truce will be declared going forward and the potential for a pause in rate hikes for the next few quarters is a strong possibility.
While US is doing well, a slowdown as a result of the Government shutdown may modify future Fed decisions. The impact of the shutdown is expected to be at a minimum a 0.5% drain on GDP growth in form of about $1.2B per week - which is enough to pay for the requested border security by the time you read this—though clearly it’s not about the price tag, it’s about who wins the latest D.C. battle. Additionally, while the Fed has indicated it is concerned about inflation due to low unemployment, a quick look reveals why there has been little in the form of supplier driven inflation. Capacity Utilization, which measures the extent to which manufacturing facilities are being utilized, still have significant room to expand production as the measure remains below long-term averages (see chart, above).
What happens in China does not stay in China
With 1.4 billion people, or 18% of world’s population, the economic impact of China slowing down can’t be overstated. While many are saying the slowdown may start to impact the global picture in 2019, the reality is that their reported GDP growth has been slowing for 7 years, since 2011 (see chart below with GDP growth projections going out to 2024). In fact, the past few years China’s reported GDP has gone from over 10% to below 7%. A change of that magnitude is very significant, especially when it involves the worlds second largest economy, which is larger than the next 3 combined: Japan, Germany and the UK. In fact, the Chinese government may wish to resolve the trade war in short order, though unlike most Western nations, they are not subject to the whims of the electorate. And now, after Apple attributed its revenue slump to China’s slowing economy, the markets will be closely looking at potential impacts to other multinationals with significant exposure to Asia and China specifically.
Domestic Debt Alert
We have mentioned this in years past and we believe it warrants yet another public service announcement. While debt per capita continues to expand, at this stage in the cycle it is being offset by increased savings. However, the ever-growing Student Loan Crisis (see below graph of debt change %) continues to increase unabated. Clearly this trend can’t continue and Universities and Colleges must start to decelerate the growth rate of tuition. And yes, since we have students currently in college we feel the pain acutely. It is time for Schools of Higher Education to start using endowments for the benefit of the students attending, not simply for the sake of building the largest endowment fund possible to improve rankings.
While the financial markets may remain volatile in 2019, the solid underpinnings for positive economic growth in the U.S. remain. Housing will continue to an area driven by Rent increases will continue in select markets and properties as job stability and incomes continue to improve. We trust you will have a healthy and prosperous year and wish you success in all your investments.
Tidegate Capital: Investing in multifamily real estate for income, growth, diversification, and potential tax benefits. If you would like to learn more about our opportunities please contact us at your convenience.
PO Box 283A
457 Washington Street
Duxbury, MA 02331
Investing in multifamily real estate for income, growth, diversification, and potential tax benefits. If you would like to learn more about our opportunities please contact us at your convenience.