To learn what’s happening in different sectors of commercial real estate in a post-pandemic world, we spoke with Gary Stache, an EVP in investment sales at CBRE for 40 years. This 38-time top ten producer, involved in transactions totaling $4B, shares his insight on the future of the office and retail sectors and where there is opportunity ahead.

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Billion-Dollar Real Estate Broker & Opportunities Post Pandemic – Interview With Gary Stache

We’re excited about this episode. We’ve got a great guest, Gary Stache, who is an Executive Vice President at CBRE. He has been in investment sales for many years and represents institutional investors as well as individual 1031 buyers. We’re excited to bring him on to get his background and perspective on what’s happening in these different sectors of real estate. We’re going to dive specifically into the retail sector as well as the office sector as they’ve both been very impacted by COVID. We want to understand what’s going on, what are opportunities happening and what pulls back some layers there.

A little more context on Gary’s background. He’s a 38 time Top 10 Producer in the Newport Beach office, which is one of the premier offices at CBRE nationally. Since 2015, his team has been involved in over 270 investment transactions. It’s almost $4 billion. Gary has also won the Lifetime Achievement Award, which is a very prestigious award given to one individual per year. That’s considered a true legend in the CBRE world.

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Gary, we’re super excited to have you on and peel back some of the layers here. Before we dive into some of the specific questions around real estate, I’d love to hear more about your background. How’d you get into this world and you’ve been doing it for a while? What’s it been like? What’s it like now?

I started a long time ago. I wasn’t planning on doing it. I was with IBM at the time as a salesman. From there, I decided I could make more money in commercial real estate. I went to work for what was considered the IBM of real estate, which was CBRE and the rest is history. I started in leasing and then I worked for an industrial. I ran the office department but all through the process, I’m a numbers guy so I gravitated towards investment. I’ve been doing investments for many years. Our team started the private client group, which is working with private investors nationally and that took off. There are probably 100 and something teams now within our company and it’s now all over the industry.

In the past couple of years, we’ve always represented investors whether it be institutional or private but we’ve been working a lot with 1031 exchange buyers. Typically, whatever they’re selling, they’re trying to avoid taxes and looking all over the country for all different product types. We exclusively represent them and anything from office industrial retail, apartments and storage. We’re pretty well-versed at that. Our general investors are usually $5 million. We were working with a group now that’s got $96 million in cash. It goes to the whole gamut. What I’ll start with is every product has a cycle. The cycle that we’re in now, industrial and apartments, are what everybody’s looking for.

What that means is if everybody is looking for it, they’ll pay more, which means lower returns and lower cap rates. Those two product categories are right on the top. Now, if we’re looking at an industrial property, there are 15 or 20 offers and it is a catfight. The same thing with apartments. Everybody wants it. The next thing they’re looking for, generally speaking, is net lease retail long-term credit. Forty percent of our buyers now are selling apartments. They’re tired of dealing with them.

A lot of the folks who are older want long-term and stable cashflow. The logical thing they gravitate to is investment-grade credit and lot 10 to 15-year leases. The problem is everybody in Mother Earth, that’s the next hot item. To give you an idea, there’s a give or take 100 to 200 properties a day coming on the market across the country for all the different product categories.

If there’s a net lease property coming on board, if it came on now, we’d have offers in tomorrow, there’d be 5 or 6 offers and it’s gone in three days, literally. The net lease retail space is extremely competitive now. That leaves the areas where there’s an opportunity, which was at the bottom of the cycle that would be office and retail, which is what you mentioned. This was a good conclusion on your part because that’s where the opportunities lie, not necessarily you’re trying to buy at the bottom of a cycle and not at the top. That being said, I’m going to mention one thing on industrial. For the first time in history, industrial properties are leasing at higher than asking rates all across the country.

What’s driving that?

What’s driving it is eCommerce. I’m not sure but I heard that for every certain square footage or product that’s ordered, it’s four times the amount of space needed for storage, which is industrial. The vacancies across the entire country are under 5%. Some markets are 0.2%, not even 1%. Basically, nothing is available. As a result, the rent on industrial is popping up pretty much everywhere.

Gary, it’s probably more local and granular than this. Regarding that statement of the vacancy of industrial property, would you say that on a regional basis, there are some regions where it’s more likely to be a little higher vacancy versus the regions that are super hot and you can’t find anything. Is it pretty much spread across the board?

It’s pretty much spread across the board. That’s most of the institutional players like the big major markets but they’re getting priced out. There’s too much competition. Now, they’re going to second term markets instead of going to big-box industrial, which is 500 million footers they are paying cap rates in the 3.5% range, which is absurd.

Can you give some context for that number in the secular cycle here? If you have a 3.5% cap rate, that’s very low even in the context of the broader cycle. Where was industrial a couple of years ago?

[bctt tweet=”Every product has a cycle. In the cycle that we’re in now, industrial and apartments are what everybody’s looking for. ” via=”no”]

5% maybe 6%. I can remember back when I was starting, it was 9 or 10. It is at an all-time low and debt is also at an all-time low. I can get into industrial debt in the high twos interest only. It works but if inflation takes off, which it’s going to, they start raising interest rates to control inflation. That’s going to move the cap rates up real estate one-on-one is going to move interest rates up. The Fed will move the interest rates to counter inflation. Interest rates go up, cap rates have to follow generally. We don’t expect it to be at these cap rates for that long only because if inflation takes off, it can. It’ll pull the cap rates up.

Are you seeing many opportunities in the industrial space or are you saying, “This is yellow flags with the level of competition in cap rates?”

There are lots of folks who like it. I’m giving you an investment grade, Amazon cap rates. If you’re not at a big box, call it 500 or a million footer, you’re going to be at 4.5% cap rates in California, 5% everywhere else. If I can buy a deal at 5% or 4.5% and borrow on Class B, which is 24-foot clear, not self-sprinklered, not 32-foot high then I can get 4.5%. I can get 3.5% interest-only debt. I can cashflow it at 5.5% if I’m putting 50% debt. That’s the way industrial works.

The other opportunity is an industrial incubator, which is small tenants, I call it 1,000 to 3,000-foot tenants. You can buy those at 5% caps and they’ve held up really well even during COVID. A lot of people like that but not a lot of tenant improvement rollover costs. They’re pretty sticky tenants. People like industrial even though the cap rates are a little bit lower. It’s because the vacancies are so low, everybody is expecting the rents to pop quickly. That will make up for some of the cap rate compression that we’re going through.

I’d love to segue a little bit into what you’re saying is maybe the more opportunistic areas with office and retail. You even take a step back especially with retail, where there’s been this understanding that it’s been in secular decline even pre-COVID because of eCommerce and that’s taking a lot of the market share away from the smaller retailers, especially. What were the trends that we were seeing pre-COVID and then what was the impact of COVID? Obviously, a lot of the retail had to be shut down. Now it’s starting to come back up and a lot of it didn’t make it. What do you see at the first part here going into it and then coming out of COVID where we have seen the opportunities?

On retail especially the anchor drug, call it the Albert General Republic with a CVS or whatever. We were probably in the fives cap rate range and everybody thought these are safe as can be and then you could get a little bit higher yield by going to retail strip centers. I was so sold on. I like retail strips at the time because I could get better returns. It’s internet resistant so you’re not fighting the eCommerce and that was the pitch. Nobody figured COVID was coming. That came out of nowhere. When that happened, the interesting thing is there are certain states that were a little bit more aggressive. California being one, where they basically closed our entire state and it’s just opening up.

What happened with COVID was, the retailers and the office got hit really hard. On retail, what we’re finding is that you can buy a retail anchor drug at a 6% cap all day long, maybe it’s a 575 and you’ll find that the best-located anchor drug centers that are doing good sales generally is $25 million or greater during COVID everywhere but California. If you go to Tennessee, as I was mentioning earlier, they don’t even know what COVID is. Nobody is wearing masks. Everything is opened. All the retailers are doing fairly well. The first question we always ask on a retail investment deal now is, “How did all the tenants do during COVID?” If it’s in an A-located property in an A market, they all paid rent.

Maybe they lost a month or two and they added it on or something but they’re all doing well. What happened was retail and office basically got painted with a black brush because of COVID. Everybody bailed out and cap rates went up. What I used to be buying at 5%, I’m now buying it at 6%. It’s a completely inefficient market. You can get really good deals on it. If I buy at 6%, I can get a 3.5% interest on the loan.

That baby is cashflowing. Generally, it depends on the deal. If 15% to 50% of your income is coming from the anchor, you have stability but as long as it’s flat then the balance of the smaller tenants in the center keeps up with inflation so you get the best of both worlds. You get credit long-term and you also get the ability to keep up with inflation with the little guys. That’s retail, great returns and great debt.

What about retail where there’s not a national anchor tenant? Is that something you’d stay away from?

I love them. We’re wrapping a ton of them now that they’re looking at strips. As long as it’s in an A location, they’re all paying rent. We bought three strips and the lowest cap was 6.5%. The highest was 7.75%. All of them doing well during COVID. The guy on the 7.75% was like, “He’s cashflowing. The tenants that are in a great center were all doing great.” Nobody missed a payment during COVID. There are giant returns. I love strips. The problem is everybody is going with a herd and the herd is retail’s black brush, I’m out. Institutions have generally been out. It’s slowly coming back. You’re at the bottom of the curve coming up.

How does retail perform in this more secular longer-term trend of eCommerce taking more market share of consumer shopping? Does that hit a certain point where it slows down, stops and physical brick and mortar retail will always retain a certain portion of that? Are we getting close to that point? Are we still a ways from that point? How do you view that?

It’s a good question and I don’t have an answer. I can tell you that in the markets that are open, the retailers are doing fine. If you go out now, you’ll find that there’s a lot of people shopping because there’s a lot of money that’s been pen up. They are doing my two cents for what it’s worth. People still like to shop. If you start going to restaurants, you’re not going to order out on restaurants for crying out loud.

Who wants to do that? If everybody is out, you go into the stores. There are people in there shopping, spending money that they saved up for the last year and a half. We’re coming right out of COVID now. If they weren’t doing well, you might have an argument but everybody seems to be doing pretty darn well. The stores are full and they’re doing fine. Is it going to impact it? Absolutely. Is it going to take it away? I don’t think so.

What about the office? Talk about that a little bit. That was hit really hard for the retail.

I’m telling everybody to clear it for a while because the problem with the office is when you look at all of the markets, everybody looks at vacancies. The problem that’s occurred, which everybody knows and I’m a living example, is we’ve been working out of home with our own setups since 2020 and I like it. We have 3, 4 or 5 designers on our team designing and they all want to work from home and be more efficient. It’s like, “I don’t care. If you can get it done, fine.”

What’s happening is there are people that like going to work. My partner loves going to work because he’s got two little Rugrats at home that drives him crazy. He can’t wait to get out of the house. He loves being in there. I can do way more on Zoom calls. I can do three times as many calls without having to drive all over God’s green Earth. I get more done at home and there’s nobody bugging me all day. The result is that’s what’s happening. Your reading about it all over. The tech companies are allowing people to work from home and their satellite office is closer to their homes.

Everything is changing. What’s happening is when you look at the vacancy numbers, they look fine. Everybody is still propping things up. The problem is when you look at the availability numbers that include sublease space, they’re way up. They’re not there yet but they probably will be the 1990 levels. Our vacancy in Orange County is twelve but the availability rate is closing at 19%. What’s going to happen is it will sort itself out, people are still going to need an office but there’s not enough paying in the industry yet. Rates are coming down. As that availability goes up, rates come down and lease rates come down.

Let me ask you a question that would drill down a little deeper on that availability versus a vacancy. There’s functional occupancy and there’s actual on-paper occupancy. Is that what this comes down to something? Something doesn’t show up on the rate is vacant until they’ve left the building. Are they not paying on a lease anymore? How does that happen?

That’s exactly what it means.

Are all of these offices that there are no human beings in, some of those aren’t considered vacant because the lease payment is still being made?

Absolutely. It’s very deceiving. It’s the availability rate that you need to be looking at. There’s going to be a lot more paying before it sorts itself out in equilibrium habits. Maybe 6, 8 or years. I don’t know when the pain is going to hit but it’s going to hit.

Some of these office spaces are never coming back. I don’t think COVID created this “new normal” but it exposed an issue that was already there, which you touched on. I’ve worked from my home on and off mostly for many years. This is not new to me but I’ve always wondered why companies want to pay their people to sit in 45 minutes of traffic each way to go sit in an office building where there’s very little human interaction needed on a daily basis other than a meeting here and there.

[bctt tweet=”As office spaces availability go up, lease rates come down.” via=”no”]

I’ve thought this was a long time coming. COVID proved that a lot of people could be more productive actually working from home or at least partially working from home. I don’t think this is something that’s going to return to normal like the restaurant businesses returning the normal. Do you see any repositioning of some of this office space as a potential investment play for somebody that’s a little entrepreneurial?

It’s very creative thinking. The way it’s being repositioned is generally, if the office has pretty decent parking and if you have a single-story office then you’ve got a lot for more parking area. We had a situation where darn office buildings got torn down. It’s $200 a foot land value so they can put up an industrial building, go figure that. The other thing that is happening is they’re knocking them down going residential. Those are the two areas or they’re taking an existing building and putting residential in it if it’s a 3, 10 or 20-storey building. The answer is yes but not quite there yet. There is synergy where you have to have collaboration and it helps to be together.

I heard a while back that the guys that have been around like us forever start to have our clients. We don’t need a whole lot of collaboration, we’re just doing our deal. We don’t need to be in the office. We’re not training anybody up anymore. For the most part, our teams are rolling. Everybody is doing what they’re doing. We don’t need to be there. The younger people like it sometimes because they like the collaboration and they need to be trained. There’s a difference in the groups of techies that need the collaborating over whatever they’re collaborating over. Those are the areas that they need to be there. Everybody is frankly trying to figure it out.

A lot of the headlines I have been seeing is a lot of beer companies are doing flex work from home and office so you have the option. Few days a week, you do home. Few days a week, come to the office. Do you see these larger companies using co-working as a way to execute that or they’ll wait for the lease rates to come down and do it themselves?

When you say co-working, what are you referring to?

I’m thinking of WeWork or something like that where there’s a third-party company that comes in and leases out on shorter-term, smaller spaces.

They’re looking at that. Everybody is looking at different things. They’re trying to figure out how many people because if you think about it, if a 30% or it’s not being used and I can shrink my space by 30% or whatever the number is then you start doing that in your head and doing the math, where I’m like, “That’s an awful lot of space coming back. Where are the tenants coming from for that?” That’s why I’m saying the availability rate is going to go up and then the vacancy rate will follow it. That is going to happen. I just don’t know how much it’s going to happen. They’re talking 15% to 30% space give back. You hear that all over the place. We don’t know the answer because everybody is right in the middle of trying to figure it out.

On the front end it’s part of your wheelhouse but as far as describing the cyclical nature of these different sectors, I know a lot of our audience as are we is interested in storage. Where is it in the cycle now?

We’ve got a guy in our company that focuses on storage and cap rates are fives. People are lined up to buy it and people are getting older so everybody needs to store things. The only issue with storage is it’s a business because you have to have a manager on-site most of the time. It’s a little bit different product care and product type. All the other ones are going to hire a property manager and they do the work but it’s not a business, business.

Storage is a business. The demand is very strong and the cap rates are in the 5% range. When you put the offers and you’re trying to chase them, they have more offers and they have 5 to 15 offers on a property. Storage is a good product type. It’s just a little bit different because you have a person that’s an employee.

Gary, I know you also focus on the medical office. How do you view that as different from standard office? How does that performing? Where do you see other opportunities there? Where is that in the cycle?

I love it and I hate it. A medical office is doing very well. More and more people are getting into it. Institutions love it. A cap rate wise on Class A is going to be 4.5% to 5% cap. These are basically since there’s been a restructuring within the medical field. You’ll notice there were a lot of groups formed with the different health groups. What would happen is you get a health system and they go, “We want to pull everybody in and let’s form a group.” It’s better for doctors. Doctors come in, they joined a group and then they lease up 10,000 to 20,000-feet, whatever the number is. There are these groups that are formed and filled up these office buildings. That’s all positive. The other positive is doctors generally don’t move.

The doctors you’ve gone, true that they’d been there forever, and then when they decided they’re done, they sell their business to somebody else and it stays there. They’re very sticky tenants. You’re buying it at sixes and you’re assuming it’s not single tenant net lease long-term, which we can talk about. On the medical, that’s all the good news. The bad news is if you get that 10,000-foot or move out, we need to expand, $75 or $100 a foot for tenant improvement. That’s $750,000 to $1 million costs to re-tenant the building. Most people don’t have the stomach for it. The other negative, not that I have anything against them, doctors tend to be a little difficult to work with sometimes.

You have to go through that as well. Overall, I like the space. One of the issues that you face too is if you do lose a doctor then you got to find one. They don’t tend to like to move so you have to find one. If it’s in an A location, if it’s near a hospital, I like retail way better than medical, frankly. I just don’t like the tenant improvement risk. I’ve invested in medical in different properties and we’ve done well. It’s okay but for a guy that doesn’t want to after look behind them and coming out-of-pocket with $75 a foot in tenant improvements, they’ll probably tend to like other product types for medical.

Going back real quick to a standard office. To Jim’s point of repositioning, I saw a more vertical multi-story office building was repositioned into a self-storage facility, which I thought was very interesting because it looked like an office building but it was whatever the self-storage brand.

That’s a good idea. They’ve got to have the load capacity. I don’t know what the load capacity is for multistorey storage. A lot of the storage, you’ll see them all over the place. If you look at a storage building, it looks like an office building from the outside. I haven’t seen it done yet but it’s a good idea.

I’d love to get your thoughts. You mentioned inflation earlier in this conversation. I would love to get your perspective on it. You’d been in this world for many decades and you’ve seen lots of cycles. As you said, as inflation potentially increases, the Fed may raise interest rates, which can increase cap rates, which would have a negative effect on a lot of real estate asset classes. Can you talk about what you’re seeing? Where are we at from a broader perspective? I have a hard time seeing the Fed raising rates substantially for a long period of time. Is that’s become their primary tool to keep the economy from imploding? What do you see there?

I am the farthest thing from an economist as there is. The only thing I’m seeing that’s interesting is obviously construction costs. Every other cost imaginable has skyrocketed because of COVID and the supply chain. I read in The Wall Street Journal that lumber prices have dropped back down to pre-COVID levels. I know it seems like inflation is taking off and it has because of the COVID supply chain issues but I’m thinking when I see lumber prices drop all the way back down to pre-COVID levels, maybe it’s a little bit of a blip. They might be over-blowing it a little bit.

It’s gone up but it’s going to come back down to more manageable levels, I think. It seems like it. Lumber came back down that quick. On some other day, something else was coming down. We’ve got a client that’s in the furniture business. If you can go through every category, they can’t get supplies or chips, you name it because everything is backed up. As soon as that starts leveling back out, it seems to me that inflation won’t be as bad as everybody is projecting.

Taking a little bit different approach on this. I’d like to ask, for instance, with apartments, what was the effect of going into some level of inflation be? Obviously, in general, what you already described is cap rates are going to have to increase but wouldn’t net operating income also increase because rents are inflationary. I’m wondering if I’m looking into apartments or I already own a building, I know a lot of our audience is probably that multifamily is a big deal. What would the effect be on that asset class if we hit some inflation?

I love apartments because I own a bunch of them and they keep up with inflation. As do any product you’re buying that has smaller tenants, the rents are rolling within every five years. They’re rolling up as inflation takes off. The answer to your question is absolutely. Anything that’s got small tenants, apartment being one, they’re inflationary proof. The cap rates will go up, also the rents go up. That’s why you’re buying them. The issue that you have is if you buy a Walgreens, for instance, as a 15 or 20-year lease with 2% bumps a year kicking in every five years. Every five years, it goes up 10%. After 20 years, they’ve got 5-year options to renew at set rates.

[bctt tweet=”Storage is a good product type. It’s just a little bit different because you have a person that’s an employee.” via=”no”]

If you do the math, things get a little dicey if you’re getting out because the value of those properties per year was stuck. They’ve got long-term flat leases. If interest rates go up, they’re stuck and you got to cap whatever the rental rate and it’s flat forever. If rates go up, you’re going to start losing money over time where you’re not going to have that with apartments or anything with retail strip or shorter-term tenants.

I know you represent a lot of 1031 buyers and some of the rumblings of that exchange potentially being removed or at least limited. What’s your perspective on that? When do you think is a reality that could happen? If it is, how does that impact the market?

We’re hoping it doesn’t go. We’re hearing that it probably won’t but that doesn’t mean anything. CBRE is the gorilla in the industry. We’re waiting for white papers or somebody to tell us because they got lobbyists and people everywhere trying to figure out what’s going on. The last I heard was a 30% chance it might happen. I’m talking to other guys with a lot of money. We have to catch that $900 million cash in a trade and he was saying that he had inside track and he didn’t think it was going to happen. He’s talking to somebody else and they go, “I’ve heard that it is going to happen.” All I can tell you is if it passes, it won’t be so devastating to commercial real estate.

It will be mind-boggling. I don’t even know what’s going to happen to the investment. It’s going to crash it. If it happens, I don’t know what we’re going to do because nobody is going to be selling anymore. Everybody is going to be holding. All that value creation, wealth and everything that goes with buying and selling, it’ll stop. That’s, in fact, simple. Hopefully, somebody in Washington wakes up and realizes what will happen to the economy if they do it but who knows.

Gary, thank you so much for your time. This has been very insightful. A lot of good nuggets to pull from here for our audience and for us. I really appreciate it. Any final parting thoughts for our audience as they’re maybe evaluating potential opportunities in retail specifically as something you’re very bullish on. What would you say to look for and maybe to be wary of as a final thought here?

It’s the old adage in retail, “Location, location, location.” It’s a little bit different from other product types but in retail, if you’re going to buy retail, make darn sure that it’s the best-located property in the market and you will do fine. When you get into the second-tier markets, off the beaten path then you could get hurt. You’re going to get higher returns but there’s a lot more risk. I’d rather be in an A location then maybe pay a little bit more for a lot less risk and safety of cashflow down the line.

This has been awesome. I hope to have you back on maybe down the road and see what’s happening in the future. Thanks so much.

It’s my pleasure.

Important Links:

• CBRE
• WeWork

About Gary Stache