Foreign investors, no longer content paying top price for U.S. trophy properties, are increasingly getting in on the ground floor of development projects they hope will become the next Rockefeller Center or Chrysler Building.
Japanese developer Mitsui Fudosan Co. last month wrapped up a deal to fund a planned $1.4 billion office tower on Manhattan’s far West Side, company officials said. As part of Mitsui’s broader push into the U.S., it paid New York-based Related Cos. $259 million for a 92% stake in the site known as 55 Hudson Yards.
The deal illustrates a shift in the development landscapes of New York and other major U.S. cities, which for decades were dominated by local property tycoons, pension funds and private-equity firms. Now, development of many of the most prominent towers is being funded by foreign developers, as well as Middle Eastern sovereign-wealth funds and Asian investors, which are outbidding traditional U.S. players as they search for higher investment returns and new places to expand.
“We’ve seen more new names, new faces, new investors with large capacity in the last two years than we’ve seen at any other time,” said Jeff Blau, chief executive of privately held Related, one of the country’s largest commercial developers. While the company previously turned to U.S. pension funds and private-equity funds for financing, these new entrants are “all foreign,” he said.
The companies plan to launch construction on Wednesday, pushing ahead before signing any leases and inviting the risk that an economic slowdown could leave big sections of the tower empty. Foreign investors typically buy established properties where occupancy is high and rental income is reliable.
Data on the sources of development capital are difficult to come by, but foreign investment in U.S. commercial real estate as a whole is on the rise.
In all, foreign investors bought $45 billion of U.S. commercial real estate in 2014, second only to 2007’s $47 billion, according to research firm Real Capital Analytics.
In downtown Los Angeles, the family that controls Korean Air is building a hotel and office complex poised to be the tallest tower west of the Mississippi, while Shanghai-based Greenland Holding Group Co. is constructing a $1.4 billion development nearby conceived by a local developer in the 1980s.
In San Francisco, Chinese firm Oceanwide Real Estate Group Co. last month said it was buying a site where it plans to build an office tower set to be the city’s second tallest, and multiple Asian investors have bought development sites in Seattle.
Nowhere is there more foreign-fueled development than in New York, where Chinese investor Greenland is funding much of a $5 billion apartment development in Brooklyn, a Singapore investor is backing a 1,050-foot tower next to the Museum of Modern Art and a Kuwaiti sovereign wealth fund is a main investor in a tower just south of Mitsui’s project. Across the Hudson River, a Chinese developer is planning the tallest building in New Jersey.
The Mitsui Fudosan project itselfis part of a forest of towers planned in the Hudson Yards neighborhood by Related and its partner, Canadian investor Oxford Properties Group. They are seeking to create a sprawlingnew business district a mile and a half from the heart of Midtown.
Real estate executives say sovereign-wealth funds and foreign pension funds are boosting real-estate holdings because low interest rates are capping yields on bonds. While income investments considered safe, such as 10-year U.S. Treasurys, carry annual yields of less than 2%, well-leased office buildings often generate income of about 4% to 5% of their purchase prices a year. Development projects typically target average annual returns of at least 7% or 8%.
The aggressive bidding by foreign investors in the past few years has led some to question whether the investors are being too optimistic in their bets given the high-risk nature of development.
The local players who have weathered multiple downturns are more conservative.
Foreign investors are “more undisciplined in their approach” than local investors, said Ken Riggs, president of Situs RERC, a property-research firm. Still, Mr. Riggs said, in their mind, it is worth the risk given that the alternative—well-leased, established buildings—bring much lower returns than successful developments.
At the same time, many overseas companies that specialize in property development are looking to diversify outside of their home markets, some of which, like China, are slowing, and therefore are willing to pay up to enter the U.S. Helping attract the interest of others were the high-profile moves by Greenland, which in 2013 bought the Los Angeles site and committed to buy 70% of the $5 billion Brooklyn development.
After those deals and a handful of others, many Asian investors in particular began to grow comfortable with building in the U.S., said Stephen Collins, an executive at real-estate-services firm JLL who advises foreign investors on U.S. property, seeing far more opportunities than in low-slung cities like London. “It’s a little bit of a herd mentality,” he said.
The trend could reverse if the environment changes. Veteran real-estate executives recall how Japanese investors rushed into the market near its peak in the 1980s, symbolized by Mitsubishi Estates’ 1989 purchase of Rockefeller Center. But as the market tumbled in the 1990s, many of those investors sold at low prices and left.
Mitsui Fudosan, which entered the U.S. in the 1970s, never exited the market, but remained low key for years, mostly owning existing buildings. But in the past 12 months, it has made a big development push. Of its 10 U.S. properties, six are development deals, including office projects in San Francisco and an apartment project in Manhattan.