Canadian investors are looking south of the border for opportunities in the US. Stephanie Schwartz-Driver reports

Canada’s large pension funds have been noticeably active in global real estate markets in recent years, deploying the capital behind a number of noteworthy deals in Europe and Asia. But just beyond their borders is one of the most mature and transparent markets and so it is no surprise to see a lot of interest in the current US real estate recovery.

Canadian pension funds, flush with cash, have been investing overseas for a decade now and, in the last few years, they have made their presence felt, buying up trophy properties in gateway cities and entering into development opportunities around the US.

They have also been consistently raising their allocations to real estate, according to Knight Frank. Collectively, their allocation to real estate rose to 9.4% in 2011 and is expected to top 10% by 2014. However, their domestic market is small and the pension funds already hold the majority of institutional quality assets. As a result, their interest in looking abroad for investment opportunities is only growing.

“Canadian institutions already own a lot of the domestic market,” says Corrado Russo, managing director, global real estate securities for Timbercreek Asset Management. ‘They just need a bigger market to play in.”

Historically, the large Canadian pension funds have preferred to go it alone, working independently or with joint venture partners to make acquisitions or fund developments. However, there are some investment situations when funds are an easier route into certain markets.

Multi-family sector is one example; it can be challenging for an investor working on its own to gain critical mass in the sector due to the small sizes of individual units. The Canadian Pension Plan Investment Board (CPPIB) is an exception; as recently as July, it announced a $355m commitment to the sector, buying into multi-family developments in the San Francisco Bay Area, the Dallas area, and in and around Chicago.

A number of Canadian investment managers have been focused on establishing funds to cater to pension funds’ interest south of the border, focusing on multi-family possibilities. These include Tricon Capital Group, which launched a US distressed residential fund in 2012.

One of the most recent entrants to the market is Canada’s Timbercreek Asset Management, which has launched its first opportunistic fund focused on investment in the US. The US Multi-Residential Opportunity Fund will target multi-family properties in the southeastern states, especially Florida, Texas, Tennessee, North and South Carolina, and Virginia.

“We are buying well-located apartment buildings that have been neglected and have not had capital put into them,” Russo says. “Our aim is to take a B asset and turn it into a B+/A- asset by fully renovating it, creating a core product for which there is now massive institutional demand.”

This strategy has worked for the firm in Canada for the last five years and it is now one of the largest owners of multi-family properties in Canada. It allows the fund to target undervalued property, for which there is less competition. “There is less capital willing to roll up its sleeves to create core assets,” Russo says.

The fund, a joint venture with Elco Landmark Residential, a real estate investment firm focusing on multi-family assets in the southeastern United States, made its first acquisition at the end of December, buying 1,380 units in Austin, Texas; Charlottesville, Virginia; and Charlotte and Chapel Hill, North Carolina. A 10-month renovation and repositioning programme is in the works, upgrading public spaces and grounds, as well as apartment interiors.

While some observers think US multi-family might have peaked, Russo anticipates continued demand for the kind of property his fund is focusing on. “Although housing prices are lower and mortgage rates are very low, the criteria to get a mortgage are much harder,” he says. “We are targeting mid-market renters who might find it hard to put together the down-payment.”

Timbercreek is also looking in areas where there is rapid job growth, particularly in the manufacturing sector. The region the firm is targeting does not have a tradition of strong unions so there is competitive labour pricing.

Another Canadian investment manager targeting US multifamily is the Sunstone Group, which established the Pure Multi-Family REIT in 2012. It made its first acquisitions in October, buying six multi-family residential properties in Texas in the Dallas-Fort Worth area.

The fund is the only publicly-traded vehicle offering Canadian investors exclusive exposure to US multi-family. The firm structured its investment to make it tax advantageous for Canadian investors, says Andrew Greig, director of investor relations for the fund.
Sunstone had previously launched four opportunity funds in the US focused on US multi-family, but this is the first structured as a REIT. “We worked with KPMG for 18 months to define a tax-efficient vehicle,” Greig explains. While it is a Canadian limited partnership, south of the border it is a US private REIT. Tax is withheld in the US, but Canadian investors can deduct US tax paid up to a certain level.