There can be no dispute that Asia-Pacific is home to the world’s global economic growth story. According to the International Monetary Funds’ Regional Economic Outlook, it is estimated that growth in the region will increase this year to 5.5 percent, up from 5.3 percent in 2016, and will remain strong at 5.4 percent in 2018. Compared with the US and Europe, Asia-Pacific is growing at double the speed and that is creating confidence among real estate investors, despite the region’s geopolitical headwinds.
“With that pace of growth, it has a positive impact on all the economies within Asia-Pacific,” says Jonathan Hsu, head of research, Asia at M&G Real Estate, the real estate investment management arm of UK insurer Prudential. “There will be more investments into people, and when you add the increasing transparency of the real estate markets, and improvements in the capital markets, there are clear positive drivers for real estate. We can feel confident when we are talking to investors about investing in Asia-Pacific for the medium-to-long term.”
Economic growth on its own is not enough to provide international investors with comfort when making capital outlays. In a time of heightened geopolitical uncertainty, government stability plays an ever more important role in investment decision-making.
“Geopolitically, it’s a fairly stable collection of markets in Asia. In the US, the leadership position of President Trump, and in the UK, Prime Minister May, are being somewhat challenged,” says Elysia Tse, head of research and strategy, Asia-Pacific at real estate investment manager, LaSalle Investment Management. “In comparison, Japan’s Prime Minister Abe is in a reasonably strong position, and the National Congress in China has cemented President Xi’s position. He will probably be the most powerful leader after Mao.”
Keith Chan, senior managing director at Australian investment bank advisory platform Macquarie Capital, uses China – Asia’s largest economy and the world’s second largest – as an example of the combined attractiveness of stable geopolitics and economic growth to investors.
“If I was asked last year whether investors wanted to invest in China, a number of them would have expressed reservations. They were unsure whether China could effectively work through its current reforms and deliver sustainable long-term growth,” Chan says. “However, this year the sentiment has really changed. When we talk with capital partners about China, their views are now much more positive.”
China acts as a bellwether for Asia as a whole among institutional investors due to the close links between its economy and the wider region. This means a growing and stabilized China will have a positive impact on real estate capital flows more broadly, according to Terence Tang, managing director, capital markets and investment services, Asia, at Colliers International.
According to Colliers’ H1 numbers, Asia deal volume rose 19 percent year-on-year to $61.4 billion. Most key Asian markets, including Shanghai, Hong Kong and Singapore, saw increased activity. However, despite the region’s growth prospects, Tse does not expect its transactional volume to continue its stately progress.
“The challenge is availability of product, either in the core space or the value-add space. The lack of product is a bit of a disconnect from the positive view and outlook going forward. It will probably continue and that will put downward pressure on transactional volumes. We are not seeing any drivers changing that in the next 12 months,” she says.
The China government’s One Belt, One Road (OBOR) initiative is also increasing the desirability of the region for property investors. The scheme is a development strategy focusing on connectivity and co-operation between Eurasian countries: primarily China, the land-based Silk Road Economic Belt and the oceangoing Maritime Silk Road. The strategy underlines Beijing’s push to take a larger role in global affairs with a China-centered trading network.
“China is pushing the Belt and Road policy and, frankly speaking, this poses some significant challenges,” says Chan. “You are encouraging capital to invest into new emerging economies, many of which have limited domestic financing channels, a prospect which often deters investors. However, Chinese corporations, often with the support of Chinese financial institutions, have rapidly become active in many new emerging markets. This has made investing across much of emerging Asia a more viable proposition, for all capital partners, not just the Chinese.”
Furthermore, in this more positive Asia real estate investment sentiment, investors are looking higher up the risk spectrum.
“The entire globe is so liquid that capital is all chasing yield. What we saw last year was that the more risk averse capital was staying in core, core-plus areas. But, with OBOR and a more stable China, capital is now more willing to take risk, so we are seeing it going to value-add and opportunistic space compared to a few years ago,” says Tang.
This is impacting return expectations within the region as the weight of capital aimed at real estate in Asia is driving pricing up.
“For many core funds in the market, you are seeing groups move into the forward funding of developments because core real estate returns are steadily coming down,” says Hsu. “In order to maintain returns at the same level investors are expecting, there is a need to go up on the risk curve. Going forward, it may be increasingly hard for value-add and opportunistic players, as more core, core-plus strategies take on more risk.”
However, Tse cautions against taking on risk that is not under the investor’s control. “Look at the last cycle and it was the same with people moving up the risk curve as we ran into the situation of high pricing and lack of product to invest in core. The difference this time is that the lower leverage environment of today, with healthier banks, means there is more cushion on the downside risk,” says Tse. “We are still cautious and don’t want to take on a lot of risk that we don’t have full control over, which is the market risk. If we look at where the market is going, we are a lot more correlated today than pre-GFC.”
Also forcing international investors up the risk curve is the tougher competition from local market participants than they perhaps would have expected.
“If you look at the volumes and dig deeper, you will see that domestic and intra-revgional investing is still more than international investment. Only around 12-20 percent of transactions are done by Europeans and Americans,” says Tse. “They are in developed markets, such as Australia, Singapore, Hong Kong and Korea, which have seen a lot of capital from Europeans, Americans and Canadians. These key large, liquid markets will continue to see international capital, but outside of these markets domestic and intra-regional capital sources remain dominant.”
This dominance has been somewhat obscured by the past few years’ high-profile overseas investing of Chinese corporations and stagnating inflows into China. But, in fact, there has been a 62 percent increase in intra-regional property investment to $69.3 billion over the past three years – a level 18 percent above aggregate Asia-to-global flows, according to Colliers.
Taking an alternative route
The search for yield in Asia is also pushing investors into newer real estate sectors. The roundtable participants all highlighted student accommodation, senior housing and healthcare as areas gaining significant traction.
“Investment managers are now looking at alternative real estate in search of returns. You have data centers, student accommodation, senior housing, healthcare, but the debate between some groups is: is this real estate or an operating platform?” asks Kin Song Lim, chief executive of Rockworth Capital Partners.
“People are having to be more creative to find good yielding product. Creating platforms or companies for alternative real estate is one way we are seeing this happen and it is giving investment managers a chance to add value and do something that the underlying investors cannot. This challenge of seeking out returns is creating an evolution of the real estate investment management industry.”
The requirement to link back to key underlying growth drivers also applies when investing across emerging Asia. For instance, logistics remains very attractive. It was the top pick from all roundtable participants as the most attractive sector for investment in the region.
“South Korea logistics is a market sector that we are actively pursuing, and the reason is that from a relative yield perspective it’s still in the low sixes and still trades at a healthy spread of around 3 percent. In terms of rental growth, particularly for modern facilities, investors should continue to see good fixed rent increases. Other than that, Australia logistics with Amazon heading there plays positively for the sector,” says Hsu.
M&G Real Estate’s current logistics development in Atsugi is an example of the firm’s commitment to the sector. Hsu adds that the investment is supported by e-commerce growth and improved infrastructure, the structural shift of occupiers to upgrade to and expand into larger modern logistics facilities around Tokyo should mean accretive income and capital growth over the longer term. Higher automation by 2020-21 may also mean less reliance on the dwindling labor force for logistics operators.
“We have partnered with LOGOS, an Asia-Pacific logistics specialist, which continues to attract deep institutional capital interest, including for investment into emerging Asia,” adds Chan. Earlier in the year, LOGOS established a $400 million venture with Ivanhoé Cambridge and Canada Pension Plan Investment Board to develop and own modern logistics facilities in Indonesia. Last month, LOGOS also made its debut in India via a venture with Ivanhoé Cambridge and QuadReal Property Group with $800 million of investment capacity.
“We now see investors willing to consider new sectors in China and generally take on more risk, as long as the links to key underlying thematics are there: urbanization, domestic consumption, millennials, the digital economy, etc,” continues Chan.
“For instance, we are currently partnering in the multifamily sector in China, a new market with no deep investment track record. But as the sector is supported by many of the same fundamental growth drivers behind the broader economy, investors have expressed strong interest in this opportunity. Investors are also increasingly looking towards sectors that have been successful in more established markets around the world, and are seeking to enter them early in China.”
Yet Hsu says not everyone is taking into consideration the liquidity, complexity and operating risks; they are simply looking for yield.
“The appropriate risk premium is not built into these specialty sector investments. For us that’s one of the key hurdles we need to get over. At this moment in time, the liquidity risk and complexity risk are not being properly priced into these specialty sectors,” says Hsu.
So, while increased risk and Asia real estate have long gone hand-in-hand, investors are more willing than ever to accept those hazards as the search for yield broadens. They are now looking at Asia through a different lens than they were only only 12 months ago.
M&G Real Estate
Lasalle Investment Management Colliers International
Managing director, capital markets and investment services, Asia
Tang has more than 24 years of experience in advisory services and principal real estate investment management. He has been involved in more than 150 real estate transactions worth a total of $5 billion spanning most Asian markets.
Head of research and strategy for Asia-Pacific
Based in Singapore, Tse works closely with LaSalle’s global strategy team, which analyzes regional economic trends and property markets in 150 cities across 30 countries and works with clients to formulate investment strategies.
Senior managing director, head of real estate, Greater China
Chan is senior managing director and head of Greater China for Macquarie Capital. He joined Macquarie in August 2007 and has over 20 years of experience in investment banking. He is now responsible for overseeing the Greater China investment banking and principal investment activities for Macquarie Capital, and in particular, he is leading the real estate initiatives in the region.
Hsu drives the investment management firm’s research on real estate markets in Asia-Pacific, as well as supporting the investment management team in making strategic and tactical investments across the region’s markets for M&G’s managed property portfolios.
Kin Song Lim
Lim is responsible for all aspects of Rockworth’s business with a focus on strategy, capital management, transactions, business development and investor relations. Prior to founding Rockworth in 2011, he held various positions in leading property groups in Asia, including Frasers Centrepoint, Ascendas-MGM Funds Management and the CapitaLand Group.
|A game of risk
PERE asked the roundtable participants what could have the farthest-reaching consequences on Asia property markets
Elysia Tse: “With the time frame of the next 12 months then one is geopolitical risk, that could shake up the direction of global capital markets and in turn affect pricing. I don’t know what form that might come in, however. Maybe North Korea, but quite frankly if that is a risk I think it’s a tail risk. It’s a low probability, high impact event and is not just a risk for Asia, it’s a risk to everyone in the world”
Terence Tang: “The biggest risk is the US president’s stance on foreign policy, particularly the geopolitical risk with Korea. His choice of some of the key federal appointments such as the Federal Reserve chair will also impact Asia-Pacific real estate markets in terms of the direction of travel of interest rates”
Jonathan Hsu: “One of my key concerns is the tech sector. This has been well capitalized for the past few years and has been the biggest driver of real estate, especially for office and logistics in the past few years. What happens if one goes bust and companies stop getting funding or the expansion of the sector slows or stops? A pullback in this sector could have a detrimental effect on the income side of real estate returns”
Kin Song Lim: “Rising protectionism is being seen in the UK, in Australia, in New Zealand and elsewhere. In the UK, with Brexit and the shift towards more protectionist trade and immigration policies, tax hikes are continuing for foreign landlords. In Australia, we are seeing a tightening of ownership laws, particularly for new developments, and the increases in taxes for offshore buyers as well as higher recurring taxes such as the introduction of absentee liabilities in certain states. In New Zealand, one of the first things the new Prime Minister Jacinda Ardern put in place was a ban on foreign home buyers after a price surge in residential property. All of these factors could have an impact on how receptive countries are to foreign investment. It is a risk that is perhaps not as widely understood or accounted for yet”
According to the roundtable participants it is a good time to be raising capital to invest in Asia-Pacific, yet the numbers tell a different story
“Generally, investors are more receptive to Asia-Pacific than they were a year ago,” says Hsu. “One of the key reasons is diversification. Many groups have been structurally under-allocated to Asia-Pacific, and should look to increase investments in the region to achieve a more balanced global real estate portfolio.”
However, Lim says there are not many markets mature enough to support the weight of capital interested in Asia, perhaps with the exception of developed countries such as Australia, Japan and Singapore.
“The key for fundraising in the region is educating investors on your structure and that corporate governance-wise, you are capable of dealing with international capital. You need to demonstrate that your strategy is linked to the key themes they find attractive going forward – for instance mega-trends like urbanization, rising middle class, aging population or digitization,” says Lim.
Backing this assessment up is PERE fundraising data which say there have been nearly 50 percent fewer funds raised this year, compared with 2016, and they have collected less than half the capital.
One reason is the growing maturity of investors’ real estate teams. Tse says more sophisticated investors are coming into the market and working with individual managers across a regional product, or market sector product for global or regional diversification.
“We are seeing more institutions that team up with one manager and take on a blended risk profile for a blended return. It’s about flexibility which is attractive to these investors. They would like to be in a structure with more discretion, so they can decide what to sell and what to hold, and when to sell and when to buy. It’s a lesson learned after the GFC,” she adds.