Today’s unpredictable times have elicited a ‘fight-flight-freeze’ response among many private real estate industry players. According to Tony Smedley, head of European private equity at Chicago-based manager Heitman, “I think a lot of people are just freezing.”
Although that is a somewhat logical response to a market that is still struggling to find a clearing level, Heitman is not one to freeze. “Typically, in this environment, people overestimate what’s going to happen in the next 12 months and underestimate what’s going to happen in the next 10 years,” he says. “We shouldn’t forget that real estate is a long-term investment. So we try and see through these cyclical events as much as we can. Clearly we don’t ignore them, we’re not complacent about them. We adjust our assumptions, we adjust our sights, we adjust the business plan we’re doing. But we don’t stop.”
Despite current market volatility, Heitman continues to pursue opportunities with “very good long-term value credentials,” namely those in the alternative real estate sectors and particularly senior housing, multifamily and self-storage. “I can say with 100 percent certainty that the alternatives in real estate will grow,” remarks Smedley, who is based in Heitman’s London office. “They have to grow, mainly because a lot of them are driven by demographics and long-term secular trends.”
Indeed, Heitman announced Monday it made an investment in U Store It, Ireland’s largest self-storage platform, following similar investments in London-based Space Station in October 2020 and in Germany’s All Seasons in December 2021. The firm is expected to announce additional deals in the alternatives sectors in the coming months.
One reason for Heitman’s confidence in investing in alternatives despite market uncertainty is there is more clarity in terms of pricing, he adds: “The alternatives are still selling and are still active in terms of the trading environment. So I think participants on both sides are better able to find the clearing price, whereas in the GDP-correlated sectors it’s much more difficult because the outlook is less clear and less certain.”
And at a time of rising costs, alternatives are good at tracking inflation. “The biggest reason for that is you have a mark-to-market event with some regularity, because they’re short leases,” Smedley notes. “And that’s a big benefit, you tend to get access to market rents with far greater regularity than you do in let’s say, a long-let office building or a retail asset that might be on a five-, 10-, 15-year lease.”
Historically, institutional capital was interested primarily in long-term leases, which were regarded as a fairly safe haven, he recalls. “There was always this perception of much higher risk associated with shorter leases,” Smedley says, because of the potential for higher tenant turnover. “But in reality, as long as you’re providing a service to your tenants, an operational mindset, then they’re probably not likely to leave after three years, or six years or nine years unless they’ve outgrown their space. And then if you’ve bought the right asset, and you’ve stock selected sufficiently well, you should be able to re-lease it. So I don’t think you should fear short leases. On the contrary, I think in this environment it is actually a net positive.”
But while the firm believes in the continuing growth in Europe’s alternative real estate sectors, Heitman has moderated its growth assumptions during this period of uncertainty. “But we still regard those as being capable of growth,” he points out. “Whereas some of the other sectors, I would probably not be quite as optimistic. I think in some of the other traditional sectors, there will probably be fewer square meters in the future than there is today. And as a result, a lot of that stock will suffer from far lower growth rates, if not negative, until alternative uses are found.”
He expects the next 18-24 months to be a very good time to put capital to work. “Historically, if you look at investing in times of dislocation, they’ve generally proven to be good vintages, even though in the short term, there’s often a lack of visibility on where the market is going to head.”
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