The AI-Driven Data Center Boom
The Rush to Build Data Centers
Selling Gigawatts, Not Square Feet
The Wall Street Journal reports that "[d]evelopers are rushing to build hundreds of data centers, especially those with the high power and cooling systems that AI servers need." Data centers are unique real estate; instead of providing space for people or products, they provide space for server racks, and more crucially, the power to run them. Industrial behemoth Prologis Inc. said on their earnings call that data centers account for a large portion of their $3-3.5 billion development pipeline.
"Overall, the industry has 15 gigawatts in new capacity in the planning stages for North America, datacenterHawk said. That is enough to power about four million homes."
Source: McKinsey & Company
The largest publicly traded players in this space, Digital Realty Trust and Equinix, both qualify for REIT status and their weight in the index has grown considerably through outperformance:
"Shares of two of the largest public data-center companies Equinix and Digital Realty Trust soared in late May after AI chip manufacturer Nvidia reported better-than-expected first-quarter earnings. The firms’ shares are both up year-to-date, while the FTSE Nareit Composite Index is down about 12%."
Combining data centers with cell towers, data-related real estate represents roughly 23% of the market capitalization weighted REIT indices:
David Guarino of real estate analytics firm Green Street says “It’s very rare in all of real estate when you have a period where demand is this strong and you can’t build supply quick enough to meet it." But not all investors are so sanguine on the asset class. Legendary short-seller Jim Chanos put data centers in his crosshairs over a year ago. Chanos believes that just because cloud or AI are fast growing sectors, it does not mean that real estate owners will benefit. Chanos in the Financial Times:
“Their three biggest customers are becoming their biggest competitors. And when your biggest competitors are three of the most vicious competitors in the world then you have a problem.”
Investors in passive REIT strategies should take note: While data-related real estate can provide tech-like returns, it can also cause tech-like volatility.
An Offer You Might Refuse
Mackenzie Capital Management's BREIT Tender Offer
California-based real estate investment firm Mackenzie Capital Management has issued a tender offer for up to 1.5 million shares of Blackstone's BREIT. The catch: A 38% discount to BREIT's published Net Asset Value (NAV) as of August 30th. Mackenzie is offering $9.27 per share while Blackstone maintains BREIT's transaction value at $14.81 per share.
What's in it for investors? At the current rate Blackstone is fulfilling redemption requests it could take up to three years for a BREIT investor to withdraw their entire investment. Mackenzie is offering to accelerate that timeline considerably...for a price.
What's in it for Mackenzie? This is harder to answer. Mackenzie could believe that this price represents a decent discount to their own view of BREIT's value. Alternatively, Mackenzie may take the shares they purchase and enter the redemption queue themselves. Using that same 3-year redemption timeline, and assuming a stable NAV, Mackenzie would realize a +17% annual return on the trade.
It is important to recognize that Mackenzie's offer represents just $14m of capital, practically a rounding error on BREIT's quarterly redemption requests. Last month investors asked for $2.1 billion back from the real estate vehicle.
Quote Book
Georgetown University (above) has some of the nation's most expensive student housing rates.
Student Housing Stays Hot 🔥
“The average cost to rent a bed in off-campus student housing is nearly $846 per month, while year-over-year rent growth in the sector is up more than 6 percent...Rent growth in the student housing sector continues to be the envy of the commercial real estate industry,”
- Yardi Matrix National Student Housing Report (Commercial Observer)
The Fed's Spooky October Financial Stability Report 🎃
“The two most frequently cited topics in this survey — the risk of persistent inflationary pressures leading to a more restrictive monetary policy stance and the potential for large losses on commercial real estate and residential real estate — were mentioned by three-fourths of all survey participants, up from one-half of all participants in the previous survey.”
- The Federal Reserve’s October 2023 Financial Stability Report (GlobeSt)
The CRE Maturity Wall 🧱
"Liquidity has been removed from the system. Middle market, small balance, large loans — there is no liquidity — which will cause price pressure and distress.”
- Joseph Griffin, Head of U.S. Commercial Real Estate at Marathon Asset Management (Mergers & Acquisitions)