DeAWM: Korea, Australia and Tier 1 China offices on menu

In its mid-year real estate outlook, Deutsche Asset and Wealth Management lists offices in Korea, Australia and Tier 1 China as offering high single-digit returns, while strong rental growth prospects will be found in Hong Kong and Singapore.

Investment bank Deutsche Bank has forecasted high single-digit returns from office assets in Korea, Australia and Chinese Tier-1 cities in this year and strong rental growth from retail properties in Hong Kong and Singapore.

In the bank’s 2014 Real Estate Strategic Outlook, released by Deutsche Asset and Wealth Management (DeAWM), its asset and wealth management division, it holds an overall favorable outlook for Asia Pacific, but has reduced its five-year forecast for the region from its earlier estimate on account of rising interest rates and their impact on capital values in low-yield markets.

The total commercial real estate transaction volume reached $137 billion in 2013, with Japan and Australia recording the highest volume. The volumes this year are anticipated to be significantly lower, however, especially in Australia, China, Hong Kong, Singapore and South Korea.

Looking at country-specific performance, Hong Kong and Singapore have been singled out as the most challenging markets, due to their cyclical nature and tight cap rates ranging now from 2.5 percent to 3.5 percent.

“While investment opportunities for foreign institutional investors remain limited due to very tight cap rates, there are opportunities for non-yield seeking investors such as private investors or end-users,” noted the report.

It further addsthat the slowdown in China’s real estate market and tightening of financial credit from banks could reduce the attractiveness of the core investment strategies in the country. Many domestic investors have been purchasing grade-B assets in Tier 1 cities for re-positioning, and this trend is expected to continue.

The withdrawal of the quantitative easing by the US, which injected a much-needed capital infusion into emerging economies, is likely to increase interest rates, thereby impacting the performance of REITs in Singapore, Australia and Japan, DeAWM added.

In Japan, prime cap rates are expected to remain in the range of 4 percent to 5 percent, and target strategies for the country identified by the report include forward commitments to development investment, hospitality, suburban retail malls, grade-B offices and offices with vacant spaces.

More generally in terms of asset classes, office and logistics are expected to continue growing. The report forecasts 8 percent to 9 percent returns from office assets in Melbourne, Sydney, Tokyo and Seoul, and yields in excess of 5.5 percent from logistics properties.

However, the total returns for major office markets in the region are likely to be lower than previous years, largely attributable to a slower cap rate compression and tepid tenant demand in markets like Australia. Tight cap rates in prime office assets have also made it challenging for international investors.

The report forecasts the commercial real estate markets in the Japanese cities of Tokyo and Osaka to perform well in the medium term, while Seoul in South Korea is expected to see stable growth. The Australian cities of Sydney and Melbourne are predicted to deliver lower returns from office assets.

Many value-add investors in Australia, Hong Kong and Singapore are also converting older industrial properties into distribution and logistics facilities. In China, with lower margins in residential real estate, many investors looking for opportunistic deals are also eyeing logistics. The report cites examples of players like Australia-based Goodman and Singaporean firm Global Logistic Properties, which are developing modern logistics facilities in the country.

Further, with low yields and flat rental growth in the office market, the report forecasts a surge in investments in the retail sector. More investments are anticipated in the remaining part of the year, especially in neighborhood centres and suburban retail properties.