This article is sponsored by Nuveen Real Estate • LaSalle Investment Management • D&J China; and supported by BentallGreenOak • GLP
While the US and Europe are still grappling with the economic impacts of the covid-19 pandemic, Asia is already in recovery mode. Consequently, many of the secular trends in the region’s private equity real estate markets feel accelerated to the industry’s practitioners.
Although Asia’s transaction volume in the first half of 2020 dropped 32 percent year-on-year, it rebounded by 35 percent in Q3 2020, according to broker JLL’s latest figures. During the third quarter, industrial property, the market’s darling sector, performed predictably the strongest, with transactions up 76 percent year-on-year. The market’s biggest unknown, offices, meanwhile saw transaction volumes decrease by 35 percent; while the hard-hit retail and hotel sectors saw transactions fall 51 percent and 87 percent, respectively.
Providing the context for today’s market conditions at PERE’s annual Asia roundtable are five Asia-based private equity real estate executives. As has become customary since the pandemic began, they gather on a Zoom call to swap notes. From the get-go, they are keen to ruminate on the compounding positive impact the crisis has had on logistics property.
“Today, most investors are back in the market with a strong preference to rebalance their portfolios with a greater allocation to the logistics sector,” says Claire Tang, senior managing director and head of China at Chicago-based LaSalle Investment Management. The firm raised $681 million for its LaSalle China Logistics Venture in April.
In agreement, Ralf Wessel, managing director, fund management of Singapore-headquartered logistics giant GLP, adds the pandemic has become prophetic for e-commerce demand as it accelerated the trend of people’s online shopping behavior. This has boosted the demand for more logistics space, he points out. Indeed, online sales increased by 40 percent during the period between May 26 and June 1, a snapshot deep into the crisis, compared with the period between February 24 and March 1, before the spreading coronavirus was officially labeled a pandemic, according to San Jose-based e-commerce fraud protection business Signifyd. To take advantage of this trend in Asia, GLP closed two logistics funds in the region during the pandemic: the ¥280 billion ($2.6 billion; €2.24 billion) GLP Japan Income Fund and the 15 billion yuan ($2.1 billion; €1.95 billion) GLP China Income Fund I.
“Logistics is definitely a good place to be. Popularity in the sector is causing a lot of capital to enter and it’s fair to say investors are getting used to the fact that logistics will probably have a narrower return,” says Wessel. Underscoring that comment, broker CBRE’s Asia-Pacific logistics capital value index increased by 0.6 percent quarter-on-quarter in Q3 this year as the markets in Japan, South Korea and Australia continue to see yield compression due to strong investment capital.
“Traditionally, industrial would expect a premium over office reflected in the entry yield because of factors such as depreciation and obsolescence, replacement cost and shorter leases. This seems to be changing. Investors need to critically assess how they value and price risk and return in the new world order,” says Louise Kavanagh, managing director, Nuveen Real Estate.
Country premiums narrow too
Although investors can still turn to the so-called higher risk profile countries for higher returns, Wessel has seen a narrowing of risk premiums between developed and emerging markets in the region due to the strong investment capital flowing into the sector. For example, China prime yields are around 5 percent, much closer to the US and Europe than they were a few years ago. “It is fair to say that anything logistics is hot. It’s also concerning because if everybody wants to have the same thing at the same time, concessions will be made in terms of quantity and selection,” says Wessel.
The firm announced a partnership with SEA Logistic Partners to invest in logistics real estate in Vietnam in August, while it also manages approximately $3 billion of assets in Brazil and $2 billion in India via its strategic joint venture with IndoSpace. “We generally target development project IRRs in the low-teens and I expect the returns for projects in Vietnam, Brazil and India to be 300-400 basis points higher than the developed markets,” he adds.
“But as interest rates remain low in the region, even at a modest leverage effect of 40-50 percent, you are still looking at some healthy cash returns. In addition, we do anticipate that rental growth will be better as the sector is growing quite fast and there is significantly more demand for limited space supply. That could basically bring back investment returns better than what we expect today,” Wessel says. According to the CBRE report, rents for logistics assets have increased by 0.2 percent year-on-year in Q3 as vacancies remain low in most of the region’s major markets. For example, the report says the vacancy in Greater Tokyo fell to a record low of 0.5 percent due to solid take-up by large e-commerce platforms and third-party logistics providers.
Offices split opinion
On the other hand, the future of offices has been challenged by the pandemic. The asset class has seen transaction volumes in the region drop 35 percent year-on-year, according to JLL’s latest report. Yet some investors remain optimistic about the asset class in the region’s major cities.
“We like offices, especially in Japan, and to a certain extent, South Korea, mainly because we don’t see a work-from-home type of transition happening. I think there’s a cultural overlay to that,” says Fred Schmidt, chairman of BentallGreenOak Japan The physical occupancy in BGO’s office assets in Tokyo, the world’s largest office market, is around 80 percent, according to Schmidt. That contrasts with approximately 10 percent of Manhattan’s office workers being back as of September 18, according to CBRE numbers. “So, the risk profile for office really depends on the location,” Schmidt says.
“The rise in work-from-home already was underway before the pandemic. Such arrangements may not gain further traction for workforce in markets like Hong Kong, Singapore and Tokyo, where dwelling space is among the smallest in the world. It is our view the impact of home-working on the long-term demand for office space would be more limited for markets in APAC,” Kavanagh says. Certainly there are the transaction headlines to support this perspective. In one high profile office deal in November, Hong Kong-headquartered private equity real estate firm Gaw Capital acquired Swire Properties’ Cityplaza One, a 21-storey office tower in the city’s Taikoo Shing area, for a price of HK$9.85 billion ($1.27 billion; €1.08 billion).
“There are only so many times you can get your hands on large buildings and locations like that. For me, it’s also a testimony that gateway cities will always be there and have very important function for next generations,” comments Wessel.
Generally speaking, although the pandemic has disrupted market sentiment, the executives on the roundtable have not seen many distressed opportunities in the region. “This is mainly due to the speed with which the economy rebounded, and the effective public health responses executed by governments in Asia,” says Tang. Indeed, transaction volume in the region rebounded by 35 percent quarter-on-quarter in Q3 and several major Asia markets saw more transactional activity than at any other period in 2020, according to JLL.
“Owners and investors not facing near-term financial distress intend to hold assets through any downturn. Some view the current environment as a valuation issue, not a value issue,” Kavanagh says. She says Asian markets have tended to intermediate distressed assets in the past in ways that often frustrate foreign buyers looking to invest in that space. Asia generally has lower leverage debt structures that are more straightforward and more conducive to government authority policy. For example, China introduced a 3.6 trillion yuan fiscal stimulus package in May aimed at boosting investment and that aided borrowing. That is expected to have the desired effect. Economists at bank HSBC predict growth in the country will accelerate to 5.4 percent year-on-year in the third quarter and 6.2 percent in the fourth quarter.
However, investors can still expect some distressed opportunities in certain markets and sectors, according to Schmidt. He has seen corporates selling headquarter buildings during the pandemic in Tokyo, for instance. The firm reportedly acquired an office building in Tokyo’s Kojimachi district from real estate company Unizo Holdings in April this year when the country was under a state of emergency. “Apart from that, the pipeline is still quite weak in places like Hong Kong, Singapore and Australia, mainly because the pricing is still expensive,” he says.
Strong fundraising momentum
Investments aside, capital raising for the region continues to stay firm. The roundtable believes this is because of expectations of Asia recovering first following the pandemic, according to Tang. The regions saw strong fundraising for closed-end property funds in the first half of 2020 where a total of $11.73 billion was raised despite covid-19, a significant increase from last year’s $3.33 billion during the same period, according to PERE data. The boost can be attributed to closings including Hong Kong-based PAG’s $2.75 billion Secured Capital Real Estate Partners VII opportunity fund, the $2.3 billion Allianz Real Estate Asia Pacific Core I and logistics specialist ESR’s $1 billion joint venture ESR-KS II. Going forward, Asia-Pacific focused funds were targeting an aggregate capital haul of $24.5 billion as of July 1 this year.
Besides closing the $681 million LaSalle China Logistics Venture, Tang tells PERE the firm is currently fundraising actively across the board. “I would like to point out that there is definitely a lot more interest, not necessarily just from cross-border investors, but also via the domestic-to-domestic capital market. For example, we have had a successful launch for our LaSalle Japan Property Fund, which saw great demand from domestic investors in Japan looking for opportunities in core real estate,” Tang says. The firm also received its renmenbi fund management license last year so it can build domestically funded platforms in China, too.
Wessel thinks domestic capital has traditionally been significantly active in its own markets, even before the pandemic. To substantiate the view, he says his firm has seen a lot of appetite from domestic institutional investors for the onshore funds it raised this year.
But Yingpei Wang, chief investment officer at logistics-focused manager D&J China, thinks both domestic and foreign investors prefer to invest with established managers at a time like this. “We are new to the fund business and most of the people still view us as an operator,” she says. “So, when we are trying to raise a development fund with local insurance companies, they would prefer to see half of the seed assets before they commit any capital with us.”
Having successfully closed its $1.6 billion flagship opportunistic fund GreenOak Asia Fund III in October 2020, Schmidt agrees that investors primarily focus on the manager’s track record as well as a product with a clear strategy. “Ours is a 10-year closed-end fund so we didn’t market it to be one that’s going to invest only through the covid crisis,” he notes.
Such conservatism in manager selection underscores a broader feeling in Asia’s private real estate market: there is no need for institutional money to stampede into products in anticipation of significant distressed asset sales following the covid-19 crisis. The roundtable believes there may be some valuation issues that need ironing out following the pandemic and some level of repricing is on the cards – though not in the market’s favored logistics sector. There, would-be buyers had better be prepared to continue paying keen prices and yields show no sign of decompressing any time soon.
China: Story of domestic consumption
The launch of the REIT regime will complete the capital recycling loop for both domestic and foreign investors.
Pandemic aside, the roundtable executives also were keen to assess the impact of the US-China relationship on the country’s private real estate market as this year’s discussion took place right before the US presidential election. Tellingly, the election is not predicted to have much impact on activity in China.
“China is very much on the forefront of everybody’s mind as one of the largest real estate markets in the world. I would say the capital is still seeking good fundamentals and cash yield. And it’s not being led necessarily by the US,” says Wessel. In Q2 2020, investment volume in China nearly doubled over the same period last year, making it the only major Asia market to report positive transaction growth during that period, according to data provider Real Capital Analytics.
Tang agrees investors are seeking traditional real estate selling points, particularly those found in strategies less impacted by the current US-China geopolitical situation. For China, naturally, she thinks logistics is a bright spot benefiting from the boom in domestic consumption.
Moreover, the country’s logistics and industrial space is expected to see more capital coming in as the government has introduced its pilot program for real estate investment trusts in April 2020, according to Wang. It is aimed at investments in income-generating real estate and infrastructure projects in operation for at least three years and the sector’s income stability is proving to be attractive to would be users of the regime. Examples in the draft guidance include: warehouses, toll roads, airports, ports, public utility facilities and industrial parks, according to regulators.
The launch of the REIT regime will provide another exit option for private real estate players for their assets. “You will see both domestic and foreign capital looking into these sectors as they can finally see a complete loop of the capital following the launch of the REIT. We have already seen more interest from investors looking at development funds in China now,” Wang says. Indeed, her firm is understood to be participating in the first batch of REITs listing in the country and is in the running to launch its first mixed-use infrastructure development fund too, targeting $150 million on the back on the upcoming REIT.
For now, instead of worrying about the political affairs stateside, Wang thinks international investors are more cautious in the country because of the current travel restrictions in place. In addition, many are taking their time to manage existing investments during the pandemic instead of actively seeking out new investment at this point of time, she adds.
Meet the roundtable
Managing director, Nuveen Real Estate
Kavanagh joined Nuveen, the investment management arm of US pensions and insurance firm TIAA, three years ago from Invesco Real Estate. Nuveen has $127 billion of real estate assets under management worldwide.
Chief investment officer, D&J China
Wang has been with D&J since 2014 and is responsible for investments, fund management and capital markets. The company is a developer of Chinese business parks, suburban offices and industrial property.
Managing director, fund management, GLP
Wessel is responsible for managing and growing GLP’s fund management platform, which currently has $64 billion in assets under management. He also manages long-standing relationships with its institutional investors.
Chairman, BentallGreenOak Japan
Schmidt has oversight responsibility for GreenOak’s Asian business. He is a member of the of the firm’s investment committees globally. He has spent over 29 years in the real estate industry focused on the Asia-Pacific region. He was previously the president and CEO of Morgan Stanley Capital Japan and head of Asia for Morgan Stanley Real Estate Investing.
Senior managing director, head of Greater China, LaSalle Investment Management
Tang is the head of LaSalle’s Greater China business and is responsible for overseeing acquisitions, development and asset management in the region. In 2020, Tang led the launch of the firm’s China logistics fund – LaSalle China Logistics Venture – through which it targets the development and repositioning of logistics assets in China’s tier I and selective tier II markets.