Last week I spoke with Chairman Robert O’Brien of Deloitte about the future of real estate. Today I consider the past, and reflect upon the importance of historic preservation. My guest in this episode, Michael Tomlan, is professor of historic preservation and planning at Cornell University, and, especially if you have any interest in attending Cornell to do some graduate studies in real estate professor Tomlan is definitely the man you want to know because he also chairs the admissions committee.
DELOITTE: ONE OF WORLD'S BIG 4 ACCOUNTING FIRMS
My guest today is Bob O’Brien of Deloitte. Deloitte, one of the ‘big four’ accounting firms in the world is a vast international network that provides ‘audit, consulting, financial advisory, risk management, tax, and related services to select clients.’ The firm was founded in 1845, in London, so they must be good, and today they employ nearly a quarter of a million people worldwide. They are the 6th largest privately owned organization operating in the United States, and in 2016 the company earned nearly 37 billion US dollar in revenues. Mr. O’Brien is Vice Chairman and partner of Deloitte, and heads up their Global and US real estate practice.
He is my first guest from industry instead of academia although, if you wait until the very end of today’s podcast, right after my usual sign off, I have included some outtakes of my conversation with him in which you will discover that although he is from industry, his amazing company also has its own university, Deloitte University, and Bloomberg have compared the training center as 'Deloitte's Disneyland.'
Mr. O'Brien very kindly shared his insights derived from the collective intelligence of his firm of 250,000 people plus their clients, into five areas in which the real estate industry will see profound change in our lifetimes: mobility, and the impact of autonomous vehicles, health and welfare, and the provision of new standards of care for employees, the internet of things, and the integration with where we live and work and what we do on a daily basis, 3D printing and how retail may evolve to better compete with the online shopping experience, and intelligent buildings where analysis of use patterns will lead to greater efficiencies and predictability.
What is particularly fascinating is that, with the pace of technological change, as real estate developers and investors, we really need to be thinking now about the projects we are building and for which we expect will have up to 100 year lifespans or even longer. We are living in an era where the real estate industry needs to collaborate with the technology industry, or risk planning and financing developments that could become obsolete before they have even been built. The importance of a cross disciplinary approach is paramount, and those institutions that have the vision to recognize and prepare for this, will be the ones that lead us into the next generation.
Today's podcast is the first in which I experiment with outtakes after my sign off. Listen in to hear Mr. O’Brien talk about the Deloitte University and share some of his other thoughts. Also, it is worth looking spending a few minutes watching as well as a link to a Bloomberg feature on The Edge building – it is really incredible and well worth the time spent taking a look.
Health Care with Professor Christopher Palmer (Ph.D MIT) UC Berkeley
HEALTHCARE AND IMMIGRATION POLICY: IMPACTS ON REAL ESTATE. PART I: HEALTHCARE
Thank you for joining me again… It has not been entirely consistent yet, but my goal is to syndicate one podcast each week on a Tuesday morning. This week though, in response to listener requests, I am splitting part of the conversation I had with my guest Professor Christopher Palmer at UC Berkeley, into two, slightly shorter, podcasts. In the first, we discuss the effect of changes in healthcare policy on the real estate industry. The second looks at how the Trump doctrine of America First might also impact our industry. Both are available at www.nreforum.org/podcasts .
One of the policy issues that dominate Washington’s agenda is healthcare. It is an issue that has been a high priority for prior administrations, and continues to remain a high priority for the current administration. But the pendulum like swings in policy from the pre-Obama era, through the Affordable Care Act, to the Trump administration’s ‘repeal and replace’ discourse, causes considerable uncertainty not just now, but as real estate investors attempt to predict the future.
So it is my great pleasure to welcome back Professor Palmer. I am very grateful to him for agreeing to be my guest again. In today’s conversation, he and I talked about why a possible reining in of real estate investment in the healthcare industry might result from uncertainty as the Affordable Care Act is restructured. Professor Palmer also shared his thoughts on why Senior housing which, on its face should be more immune to short term policy fluctuations, may also not be quite as invulnerable as some might like to think.
It seems intuitive to me that with as pro-business a government as we have now, there could only be optimism for the real estate industry. So I asked Professor Palmer a question… The Trump administration has a three prong stimulus plan - reduce taxes, spend heavily on infrastructure, and relax regulations – won’t this be a great boost to the real estate economy?
UNCERTAINTY IN POLICY IS DESTABILIZING FOR REAL ESTATE
Uncertainty in healthcare policy and the direction it is headed is not good for planning developments, like hospitals, for example, because not knowing how patients are going to be reimbursed for their medical expenses creates doubts as to how development investments will be returned. The healthcare industry does have some immunity to shifting policy changes because it takes a long term perspective, and because demographic trends that point to a large aging baby-boom population will have some flattening effect on the impact of policy changes.
As the population ages we are going to see greater spending in healthcare related real estate. However, demographics are not a panacea for overriding unpredictability in healthcare. Insurance is how most people plan to pay for their healthcare, so with the ACA we had this roadmap laid out that defined how people were going to be able to finance their healthcare expenditures, but with that being rolled back, once again there is considerable uncertainty across the industry. Which is the anomaly: the Affordable Care Act, or what is the current plan being debated in Washington the anomaly?
Opportunities may arise from identifying those properties that are now seemingly distressed healthcare assets, and acquiring them with the view that in five years time, something that looks more like the ACA will again be the government’s mandate.
SENIOR HOUSING - STRONG DEMOGRAPHICS, BUT HOW WILL SENIORS PAY FOR IT?
Senior housing has been, and continues to be a very successful space in the real estate industry. The aging of the baby boomer generation reaching retirement age and increasingly likely to need senior housing facilities seems, on its face, to be a positive tailwind. However, one thing to watch for is the impact the retirement savings crisis in the United States, and of underfunded pension obligations on long term viability of the senior housing market. Institutions and municipalities have underfunded pension plans that are a looming problem, and combined with an atrociously low savings rate in the United States, the prognosis for how this cohort of aging people is going to retire is not good, let alone how they are going to afford medical expenses, and the costly option of entering senior housing facilities to live out their days. This certainly mitigates the likelihood that senior housing is going to be a sure thing as far as providing certainty on the investment horizon.
SUMMARY
There are two takeaways from today’s discussion with Professor Palmer. The first is that the current uncertainty about the healthcare industry creates difficulties in making medium and long term predictions upon which to base underwriting assumptions. However, if you have a firm opinion about whether the Affordable Care Act was a healthcare industry anomaly, or that the Trump administration’s repeal and replace policy is the anomaly, you may be able to find opportunities trading with those on the other side of that debate. The second pertains to the senior housing sector which, though enjoying some tailwinds due to aging population demographics, may yet experience turbulence as its target market finds it increasingly difficult to pay for the services on offer.
If you have enjoyed listening to the podcast, please tell your friends and colleagues about the Forum, and visit us at www.nreforum.org where you can hear earlier episodes and subscribe to the series on iTunes, Android, and other syndication platforms.
Thank you again for joining me in part one of this two part episode. Please join me again for part two, when I discuss with Professor Palmer the impacts of the America First doctrine on the real estate industry.
IMMIGRATION
HOW TRUMP'S AMERICA FIRST DOCTRINE COULD CREATE DISTRESSED REAL ESTATE INVESTMENT OPPORTUNITIES
Welcome to the second of two episodes with Professor Christopher Palmer of UC Berkeley. In the last episode we discussed the impact on real estate of the changes in healthcare policy between the last administration and this one. Today, our conversation focuses on immigration policy as a part of the Trump America First doctrine as it pertains to real estate.
The America first doctrine has, by definition at its core, our relations in the international community. The key policy issues that drive this doctrine include immigration, foreign policy, and international trade, and there are five key areas where their impact may be felt in real estate. One, new development projects, two, the office sector, three, multi-family, four, retail, and five, manufacturing. In my continuing conversation with Professor Palmer, we were discussing the administration’s current focus on immigration restrictions. On its face, it might seem somewhat removed but, actually, how could putting America First affect real estate?
Maybe some of these sectors present investment opportunities as putting America First policies are implemented and, as their impact starts being felt here at home, some real estate comes under distress.
I hope you found this podcast, and the healthcare podcast of interest. Thanks so much for listening. If you like the podcast series, please consider subscribing on iTunes or Android or any of the other syndication platforms so that you don’t miss the next episode as it comes out. Go to www.NREForum.org and there are subscription links on most pages. Thanks once again to Professor Palmer for sharing his thoughts on these important real estate issues, and thank you too for joining me again today.
Before starting today I would just like to offer a word of appreciation to those folk who are currently considering sponsorship of this National Real Estate Forum podcast series. As clichéd as it may be, your name could be here.
Do School Test Scores Influence Home Prices
Now is the time of the year when those among us with children start wondering where they are going to be enrolling those children in school next year. As a consequence the residential property market starts to heat up as people buy homes in school districts that they consider desirable. Part of the calculation in making these types of decisions is balancing the relative cost of private school with the perceived additional cost of buying a home in a good school district. But when you buy into a better school district, how much of the premium in housing is really associated with the performance results from the neighborhood schools, and how much as a result of other factors?
My guest today is Professor Steven Ross who holds the Philip E Austin Chair of Public Policy at the University of Connecticut. His research specialties focus on housing and mortgage lending discrimination, on residential and school segregation, on neighborhood and peer effects, and on state and local governments. It was, perhaps, inevitable therefore that a discussion regarding the relationship between property prices and school quality should migrate through a broader discussion regarding school policy and the impact on neighborhoods and on standards, before returning to our discussion on school standards and how they relate to house values.
As the objective of the National Real Estate Forum at NREForum.org, is to provide deeper insights into complicated issues in real estate, I hope that you will find Professor Ross’s thoughts about the issue of school quality and house prices as interesting as I do. Here is what he had to say.
Historically research saw a large relationship between house prices and local school district test scores. So for example, it was found that moving from a school district in the middle i.e. an ‘average’ school, to a school in the top 16% of schools (versus being in the top 50% - i.e. a one standard deviation from the average), this could increase house prices by upwards of 10%. But this earlier research did not take into account other factors that might be moving this needle, such as quality of the neighborhood overall. Sandra Black, in 1999, first looked at trying to account for these differences by examining house price differences in similar neighborhoods, but that were in different school districts i.e. on where neighborhoods were split by school district boundaries. ('Do Better Schools Matter?') Black found differences of only 2%, rather than 10%, where schools were in the top 16% of schools, versus those in the top 50%.
So Ross and his colleagues looked at other factors that might be impacting test scores and found a significant variable seemed to be ethnicity – that property values were more driven by ethnicity than by school scores. Property values were lower in predominately Hispanic neighborhoods, and it was this that drove values rather than test scores. One possibility is that in the earlier days when these research papers were written, that test scores were not as readily available as they are today, but more recent research has echoed the same results that a one standard deviation from the average – top 16% versus top 50% of schools by test scores - result in about a 2% difference in property values.
Giving Parents Choice in Schools Can Have a Big Impact on Property Values
Therefore, if, though small, there is still an impact on property values as a result of test scores for neighborhood schools, what is the impact on property values where parents enjoy the benefits of ‘choice’ in selecting their schools? In research where choice is a factor, what is found is that the impact on house prices is, actually, very large. If only one percent of the student body living in one district remains living in that district but chooses to go to school in a different district, then overall house prices in their district of residence rise by 1%. Put another way, the entire housing stock in their district of residence rises by 1% even if only 1% of the student body elects to attend school outside of the district. Additionally, the values of homes in the districts into which these students are now attending school, these prices fall because now their families did not need to move into the district, did not ‘need to bid on housing’ to get into the school district.
It is a zero sum to the house price market overall. ‘They are falling in the places with the best schools that presumably had a price premium, and rising in the places with worse schools that presumably had a price discount,’ says Ross. The important distinction between Black’s earlier study that showed a small house price difference between school districts with different school test scores, the latter studies are showing a significant impact in the residential housing market from allowing families to choose where to send their children to school. In fact, an important change that is seen is that the incomes of people living in those districts that have the poorer schools, actually rises when you allow for school choice. But this is not the only change: The revenues now coming into these poorer districts is also rising because higher income families are moving into the districts and so, presumably, paying more in taxes, spending more money locally, and taking greater care of their properties and neighborhoods.
The research is suggesting, therefore, that as choice is given to families as to where they send their children, it has a powerful impact on property values across neighborhoods. This results in a tendency to see lesser concentrations of neighborhoods with wealthier makeup as distinct from poorer neighborhoods. Neighborhoods, in short, become less polarized across income and socioeconomic factors.
From a policy perspective, school test scores are not that important as a determinant of house prices. Moving one standard deviation in quality of school (from top 50% to top 16%), has less of an impact than adding a bathroom, for example. But it does have a big impact on who is willing to live in a particular jurisdiction, which itself can have a big impact on a neighborhood, and that when you allow for choice, this bifurcation of neighborhood differences between richer and poorer, is ameliorated. On the other hand, if you are a planner and you want to see neighborhood improvements, improving school quality does have an impact because it draws in people of higher socioeconomic standing, and this can lead to improvements in neighborhood quality. So one way to improve an area that is in decline, if improving the schools is too long term or financially impractical, might be to allow for residents of that area to choose which school to go to. This would also draw in higher income residents, which in turn would improve the area. But although ‘choice is a win’, it may simply allow for neglect of already failing schools.
When you look at the improvements in student performance from those kids who win lotteries to get into better school districts, we see unequivocally that those kids do better. So the experiment with choice combined with magnet and charter schools seems certainly to be working. That said, there are a limited number of resources and so kids are going to be left remaining in the public schools in those districts with lower academic standards, and the big question is how to accommodate these kids.
One way to do this is to impose high stakes testing on schools and results have shown that this has a substantial positive impact on the quality of these lower standard schools. Accountability does work and adapting a common core, ‘the’ common core, seems not an unreasonable approach in determining what kids need in the workplace to be productive and of value to them as they seek employment once they graduate.
Influence of Department of Education (Federal) on Local Schooling is Limited
From a national policy perspective, however, the government does not have much of an impact on education because most spending is driven at the state and local level. The way past administrations have attempted to maneuver states in the direction they have wanted, is to have been to offer grants to those states producing results that align most closely with their own goals – which in the case of the Bush and Obama administrations, has been in the area of accountability. These administrations looked at proposals from the states that articulated how they were going to deal with failing schools, including title one schools, and those that failed ‘no child left behind’ standards for two years in a row that then went to choice options, for example.
The Obama administration started to look at teacher evaluation, where student test score improvements were deemed reflective of teacher performance and grants were to be allotted accordingly. Seems that now many of these grants, under the Trump administration and Betsy DeVos, is going to be oriented towards how states are going to be allowing for choice. And, as discussed, this is going to bring with it the possibility that there will be more dramatic shifts in housing prices across neighborhoods depending on whether you are a more affluent neighborhood with good schools where prices may seen downward trends, or in a poorer area where house prices may tend upward. So this could lead to gentrification of inner city areas, and to the extent that parents can choose where to send their kids to school, there might be more flexibility on where families choose to live, which in turn could lead to less segregation across socioeconomic and ethnic lines.
But what was seeing come from the Department of Education under DeVos is a enabling of choice but not necessarily within the public school system, but within the private school system, like charter schools. The administration is also talking about allowing for ways to navigate the idea that incentives can be provided for faith based schools to attract students also. The way they are talking about doing this is by providing tax credits so that someone can make a wholly deductable donation to a faith based school that is a 100% deduction against their tax liability.
On the face of it this is a good thing. Provide a mechanism whereby people who cannot otherwise afford to go to a private school may be able to get in because that school now has a scholarship fund available to it. The problem is the tax credit, which is not equitable, especially if it is a 100% tax credit, even it is capped, this means that private schools can go to donors and solicit donations that will cost the donor nothing, because it is just a reallocation to that school of dollar for dollar taxes that the donor would otherwise have been paying anyway. The enables the private citizen to decide exactly where these tax dollars are to go and this has been largely how DeVos has been promoting her programs.
Neighborhoods, not Schools Drive Property Prices - Unless Parents Are Given the Choice Option for Schooling
But that is a fuller discussion for another day. Returning to the question of the relationship between school quality and house prices, the conclusion is that the relationship is, actually, small, and is in fact more driven by who is living in the districts with the good schools. And that with the implementation of choice for families as to where to send their kids to school, the impact on house prices is likely to be much higher, and so certainly something to watch for in the coming months and throughout the years of the school career of your children.
Well. What do you think? I really would like to hear your thoughts about today’s podcast, and, if you like the podcast, to share them also with friends and colleagues on Facebook, or Twitter or Linkedin, as well as any of the other platforms on which the Forum is syndicated. You will find links to all these social media options on the website at NREForum.org.
Professor Ross offers plenty of insights that give depth to understanding the complicated topic of how to fund schools, and what the impact is on house prices as a result. While it may cost a little more to live in a school district with higher test scores, the extra cost is driven in large part by the socioeconomic characteristics of that neighborhood, and less so by the test scores themselves. Watching for where the opportunity to choose which school your children attend might provide you with better value for money in terms of housing, and equally, if you are already in a good school district and choice is offered in your area, you might see your home value negatively impacted. Also, I am looking forward very much to hearing more about the new Education Secretary, Betsy DeVos, and what her plans will be for funding private schools through the resources available to her at the federal level.
Thank You For Considering Sponsoring the NREF Initiative
As I draw to a close for this week, here is a brief reiteration of my gratitude to those folk who are thinking about supporting this podcast. Your sponsorship will enable world class research from the top universities and scholars in this country – and consequently in the world – to be shared by the wider real estate industry to the benefit of all. Thank you sincerely for considering the opportunity of sponsoring the National Real Estate Forum initiative.
Download Professor Ross's research papers: