Real estate ‘keeps going strong’

MIRA's head of real estate Brett Robson discusses investors' commitment to real estate despite elevated global macro and geopolitical volatility.

Institutional investors have increased real estate exposure rather than actively recycle capital and liquidity continues to be boosted as many larger investors remain underweight in real estate. In contrast, developers and corporates were key sellers, recycling capital back into their core businesses, including new developments.

Liquidity to remain strong

Regionally, transaction volumes were strong in the US and eurozone markets supported by high levels of capital looking to be deployed. Data from RCA show that US transactions totaled $462.5 billion in 2019, well above the five-year average of $426.9 billion. Eurozone transactions also exceeded the five-year average, while there were signs that UK activity bottomed towards the end of the year as hard Brexit risks diminished.

Brett Robson

Asia-Pacific activity was mixed but overall sales of income producing assets were in line with recent averages. Following another solid year, China’s transactions are likely to soften sharply in H1 2020 before recovering as the year progresses, assuming coronavirus risks dissipate, as financial markets expect.

Investors focus on megatrends

Offices remain the first point of call for investors building their global real estate exposure, capturing 48 percent of cross-border investments in 2019. Ongoing jobs growth is supporting demand for office space in supply constrained markets, offsetting efficiency gains as occupiers move towards more flexible working environments and leasing arrangements.

“Real estate performance will remain solid”

Investors continue to rebalance towards ‘beds and sheds’ and select niche sectors, such as data centers, student housing or manufactured homes. Technology and consumer shifts to online spending is underpinning high levels of demand for industrial space. At the same time, we are seeing ongoing shifts to rental housing demand – multifamily apartments, senior housing and student accommodation – due to growing and aging populations. In retail, spending is expected to increase over the next decade, but this is likely to support logistics relative to traditional retail, where footfall and leasing spreads are under pressure.

Cap rates tight, spreads attractive

Cap rates were stable or tightened marginally last year across the majority of markets ex-retail with elevated dry powder and accretive borrowing costs supporting yield compression. Although cap rates remain tight relative to historical ranges, property spreads to 10-year government bond yields remain attractive to institutional investors and currently range between 225-350 bps across some major developed markets, though are lower in Asian growth markets such as Shanghai.

Global real estate outlook

Despite a below-trend growth outlook – expected to be held back by global trade weakness – real estate performance will remain solid. The upward pressure on values ex-retail due to lower rates is likely to continue offsetting global growth concerns.

The timing of the US political cycle is also important as the government pulls out all stops to ensure jobs growth and equity markets remain solid. Of course, the risk here is that labor market tightness and healthy wage growth lead to higher inflation and potentially higher rates down the track.

While returns will likely moderate, the real estate outlook screens relatively attractive against expected returns for government and corporate bonds. Beyond 2020, another cycle would require capital markets and the global economy to deteriorate sharply. As such, we see investors continuing to position themselves in sectors and markets underpinned by structural tailwinds to maintain performance through cycles.