In late December, Morgan Stanley Investment Management appointed Laurel Durkay as its head of global listed real assets. Durkay, formerly the senior vice-president and portfolio manager for global and US real estate securities at Cohen & Steers, is tasked with growing MSIM’s listed real assets portfolio at a time of increasing institutional investor interest in the sector.
PERE caught up with Durkay in February in a wide-ranging interview that touched on the performance of listed markets in a post-covid environment, why select offices and retail still remain an attractive listed investment proposition, and the impact of the GameStop saga. Here is an excerpt of the interview:
Is there a rationale behind MSIM choosing to place its listed real assets business under John Klopp and the broader real assets platform at MSIM?
Whether you look at investing in private markets or public markets, the same fundamentals are at play. That is why the broader organization made the determination several years ago that given the complementary nature between private and public sides, it made the most sense to have them grouped together.
Have the unprecedented events of 2020 and the significant dislocation in public markets increased the appeal of listed real estate for institutional investors?
When you have such an unprecedented market event – not only in terms of the magnitude of the drawdown, but the short duration over which it took place – it does catch people’s attention; especially when you are looking at the disconnect in valuations on the listed and private side. It is a great opportunity to be able to show [to investors] that we are at an inflection point from a valuation perspective right now, which allows institutional and retail investors to make an allocation on the securities side to benefit from the same characteristics you would achieve on the private side, but also at a discounted level.
But does that disconnect in valuation still exist almost a year into the crisis?
Over 2020, from the peak of the market in the end of February to the trough in mid- March, we saw upwards of a 40 percent fall in total returns in the broader listed real estate market. Some securities and sectors were down more than 70 percent during that period. There was a significant recovery through the next nine months; however, the global listed real estate market still ended 2020 in the negative territory.
When you look at the opportunities today, I still believe you can achieve a double-digit return using what I call a relatively conservative assumption for a lot of the major asset classes.
Let’s talk about offices and retail – two sectors that have a big red flag on the private side because of all the headwinds triggered by the pandemic. Are there still opportunities to invest in these sectors on the listed side?
That is where the disconnect lies. Some of the REITs within offices and retail were among the hardest hit during that significant drawdown last year. While there has been some recovery, the ultimate valuation is still distressed in the bigger picture. Within the private side, some offices and the majority of retail has been completely red-lined, and the bid-ask spread is insurmountable, barring a few examples. But you can still find more opportunities within the listed market, given the more distressed valuation.
At the same time, one does need to be aware of the uncertainty regarding potential future demand drivers for these two asset classes and what that value impairment has been.
When you look at the opportunities today, I still believe you can achieve a double-digit return using what I call a relatively conservative assumption for a lot of the major asset classes
How much more room do you think investors have to tap into the listed office and retail opportunity as markets recover, vaccine distribution ramps up and some degree of normalcy is restored?
I do believe with a select handful of office names within gateway markets across the globe, you could still see anywhere between 10-15 percent IRRs over the next several years.
And how do these returns compare to pre-pandemic levels? Is it higher than the returns in 2019, for example?
That would be higher. Offices within listed markets had been losing value and underperforming the broader REIT market in 2019.
Within five to 10 years, you will have significantly fewer regional malls in the US than today
The public markets have also seen a market frenzy over the past month with the GameStop saga. Retail REITs have been impacted too, with some mall specialists seeing their trading values increase by between 50 and 80 percent on the year in early February. What does all this market volatility mean for the appeal of retail REITs, and the overall outlook of listed real estate?
When you look at the retail sector, there are a few factors you need to underwrite while trying to assess value. Within five to 10 years, you will have significantly fewer regional malls in the US than today. Therefore, when you look at the property portfolios that have a 100 percent mall ownership, there will be deterioration in value for a lot of these companies. There will be winners and losers that emerge and ultimately a true focus on omnichannel distribution is going to be the best path forward.
I also see the volatility that has unfolded in recent weeks as a short-term blip. Remaining focused on the quality of the underlying assets, quality of the management team and having the vision to assess how this retail landscape is going to unfold all comes together to form my view of where valuation is today. That is how we are trading our portfolio, and everything else is just short-term noise.