The end of monetary easing means challenging times for global real-estate investors, prompting them to look beyond gateway cities and de-leverage.
Real-estate markets around the world have benefited enormously from capital market tailwinds over the last decade. The question now is whether the underlying fundamentals are in place to continue to drive growth, panelists told the 2018 Conexus Financial Real Estate and Private Markets Conference in Melbourne last month.
Indraneel Karlekar, head of global research for Principal Real Estate Investors, says synchronised easy monetary policy has boosted real estate in recent years, but with central banks unlikely to be so accommodative in the future, the assumptions for cost of capital will rise, and so will risk premia attached to expectations for real estate.
Some investors will actively seek out value with tactical asset selection and make sure they are maximising rents, he told a panel chaired by Jennifer Johnstone-Kaiser, consultant, property sector research and advice, with Frontier Advisors. But this won’t be an easy game with rent growth appearing to slow in some markets, particularly in the US.
Beyond gateway cities
“If you’re looking at rent to be your driver of performance, you’ve got to be really focused on which markets, which assets, globally are going to get you there,” Karlekar said.
Investors appear to be getting more selective about where they place their capital. There is evidence that capital flows into global gateway cities like New York, London and Paris are slowing, while the pace is gathering in lesser-known markets such as Helsinki, Madrid and Amsterdam, he said.
Selecting assets will be challenging because in the last eight years, global quantitative easing has “pushed up capital values everywhere”, leading to “not a lot of differentiation in pricing” in various markets, Karlekar said.
Some will choose to “stick with their knitting” and await longer-term returns, he said.
With the US pumping large amounts of fiscal stimulus into the economy, in the form of a $1.5 trillion tax cut and hundreds of billions of dollars in increased federal spending, a late-cycle boom could result, Karlekar said. However, in an economy running at nearly full employment, there is a risk the Fed will raise rates aggressively to prevent overheating, leading to a recession or slowdown in two or three years.
“Property investors need to start factoring in potentially higher costs of capital,” Karlekar said.
Reducing reliance on debt
This is a risky situation for domestic property investors, said Kent Robbins, head of property and infrastructure for UniSuper, because if Australian interest rates rise due to rising rates in the US, and not as a result of economic growth in Australia, that will lead to a “bad outcome for Australian real estate”.
“We want to believe that if interest rates rise, inflation will be occurring in Australia and, therefore, rents will grow sufficiently to offset the fact that you need a higher total return,” Robbins said. “If that unbundles, then yes, it’s a bad outcome.”
UniSuper is focused on lowering its gearing to reduce any shocks to the economy, he said. The fund’s recent purchase of half of Brookfield’s $1.8 billion Wynyard Place project in Sydney, together with AMP Capital’s office fund, is directly owned with zero gearing, he explained.
“We feel it’s pretty late in the property clock,” Robbins said. “So what do you do? Just focus on reducing your gearing, don’t take too much development risk, and just be in the best-quality assets, where you believe at least your income is sustainable. If it grows, great, but the primary objective is withstanding the shocks that could be put at it.”
