Many economists believe that the Donald Trump presidency will bring with it an era of higher interest rates, inflationary policies, tax cuts and infrastructure spending. Such an environment would have mixed consequences for the US commercial real estate market, affecting Real Estate Investment Trusts (REITs), international investment, commercial lending and a diverse array of other areas in a myriad of ways. We summarize below several themes that may impact real estate investment and finance in the United States during the early years of the Trump presidency.
It appears likely the Trump administration would take action to preserve portions of the tax code that are highly advantageous to real estate developers, examples being 1031 tax-free exchanges and the carried interest exemption for investment managers. There is also talk of federal income tax cuts for all filers. Such tax policies, in addition to increased infrastructure spending (which brings with it a high potential for improvements to roads, bridges, and airports) and immigration policies (which reduce the supply of low cost labor) would likely lead to some level of inflation and higher interest rates. As a consequence, inbound investment to the US may be reduced, at least in the short-term, and population growth may be dampened, both of which would negatively affect the commercial real estate market.
The conventional wisdom is that higher interest rates are negative for REITs due to the inverse relationship between the cost of debt and the rate of return on equities. Although this may be true in the short term, one should consider the long-term consequences of an inflationary environment. Over time, inflation leads to increased rents and healthy capital gains on real estate investments. And larger fiscal deficits caused by high government spending may serve to stimulate the US economy, depending on the destination of the expenditures. These factors should serve to increase the value of REITs and other real estate equities.
The international nature of the transactions taking place within the US luxury real estate market has been a crucial driver of strong demand for real estate investments, a high level of financing activity, and a significant number of real estate construction projects across the country. International investors deserve accolades for their contributions to the real estate industry’s success. There are risks, however, associated with any proposals to limit immigration into the US through visa restrictions or to deport illegal immigrants in a large-scale manner. Such moves could contribute to a reduction in real estate investment by non-US investors and an increase in real estate development costs by reason of labor shortages.
Regulations such as Dodd-Frank and Basel III have an increased likelihood of being loosened during the Trump presidency. While a full repeal of Dodd-Frank remains unlikely, specific changes to the act are more conceivable, such as altering the act’s impact on community banks with respect to safeguards against reckless and predatory lending, with potentially depressing effects on the real estate market. Other large potential shake-ups, such as exiting Basel III, the voluntary global framework that provides a buffer between banks and risky real estate construction loans and other financings, would be a sizeable challenge. Given the potential disruption such an exit could cause in the financial markets and the dampening effect it could have on investment (including commercial real estate investment), we would expect the Trump administration to adopt a measured approach.