Eric Byrne ,
Head of Multi-Manager - Real Estate
UBS Asset Management
Is now a good time for clients to invest in real estate as it looks expensive today based on historical values? If so where should I be focusing my investments?
It is comparatively late in the property investment cycle and current entry prices for good quality real estate look elevated relative to history. However, global interest rates remain historically low and it is a reasonable assumption that though they will likely rise, they will not return to their historical averages. Not only does this mean real estate will remain favorably priced vis-à-vis other lower yielding asset classes like fixed income. It also means that the risk premium for real estate over and above the risk-free rate will likely remain nearer to its long term average, despite the higher entry prices. Furthermore, the development cycle has been less pronounced this time around, particularly in Europe. This means we are facing a potential economic slowdown with less construction in the pipeline. All else being equal this means less downward pressure on rents and values.
Nevertheless, in this context we still recommend broad sector and geographic diversification with tactical large exposures in sectors and markets which are benefiting from long-term structural changes. This means a focus on logistics, in particular the types of assets serving large urban communities. We also favor alternative sectors which are growing in importance thanks to demographics, like aged care or student housing. We have a preference for markets which have lagged in their recovery and/or where supply is very tight, including but not limited to parts of continental Europe.
Finally, we recommend a focus on asset-specific value-enhancement initiatives, i.e. identifying specific strategies that will improve the income stream of an asset. We believe this is the angle to outperform now that we are late in the cycle and market capital value growth is slowing to a halt.
What are the top three trends you think will impact real estate in 2019?
1. Moderation in global property returns and increasing emphasis on income
In 2019 we expect an acceleration of some of the trends we witnessed in 2018, though the driver of the slowdown may well be switching from higher interest rates and their impact on pricing to slower economic growth and the impact on rents. In either case, first and foremost we expect a further moderation in global property returns and an increasing emphasis on income. This has been a trend in place since the peak of the market in 2015 and an outlook for which we have been positioning our product strategies for some time.
2. Divergence in property performance due to big structural changes in the retail sector
Secondly, we expect a continued polarization in property performance. The retail sector is going through massive structural change and this will alter the very structure of the asset class. It will not disappear and some of what used to be considered retail will disappear, replaced by efficient logistics stock and e-commerce, while some of what used to be leisure will be incorporated into retail. In 2019, however, elevated capital expenditure and widespread investor pessimism will see retail values under pressure outside the most dominant assets and the best catchments. At the other spectrum stands industrial which is benefitting from the structural change in demand as well as institutional capital flows which have permanently altered its relative valuation. We expect this sector to continue to perform well.
3. Increased perceived volatility but this will have little direct impact on property values
Finally, we believe there will be an increase in perceived volatility, but this will have little direct impact on property values. Political risk, whether Brexit, European budgets, or US government shutdowns, will dominate headlines and raise uncertainties, but it is only where this affects real estate demand and the structure of the economy that it will be reflected in property values. It is our experience that political risk tends to be over-estimated in the short term and its effects misunderstood and/or under-estimated only in the long term.
What are the options accessing global real estate?
The evident starting point for global real estate is the straightforward acquisition of direct properties. However, in addition to the scale and cost needed to implement such a strategy, is the staggering complexity of undertaking due diligence in multiple jurisdictions with differing practices, tax, and currencies.
In contrast, gaining exposure via listed securities can be a low cost alternative to acquire diversified exposure and access expert management without the enormous funds needed for a direct portfolio. Investors also benefit from higher levels of liquidity. The downside is that, in the near term, these shares are as volatile as the wider stock market. In between direct investment and the public markets lie the unlisted funds, which may be closed-ended or open-ended. They offer a balance between volatility and liquidity, though not all investors may be eligible to invest in them or find them tax efficient, especially cross-border.
Alternatively, other groups could pool resources with like-minded investors and mandate a fund-of-fund manager or multi-manager platform with the operation of their real estate exposure.
Here, rather than investing directly or indirectly through a single unlisted fund, a portfolio of unlisted funds is selected by a manager and actively positioned. This removes the concentration risk of being exposed to a single fund (or manager) but adds a layer of fees in recognition of the manager’s ability (and direct time costs) to select and carry out due diligence on funds which are assessed to offer good risk-adjusted returns for a particular strategy.
How can you be part of a multi-manager global real estate platform? Find out more.
UBS Asset management’s multi-manager real estate platform
managing multi-manager real estate solutions1
in equity1, 2
countries spanning investor base1
ESG in our real estate strategy
Environmental, Social and Governance (ESG) factors are playing a much larger part in investors' decision making across the asset management industry and that is also the case for real estate.
In addition to reviewing a fund's ESG policies, we consider how it incorporates these policies into the fund strategy, how it reports its ESG strategy to its investors, what relevant laws and regulations impact the fund, and any sustainability initiatives the fund is already participating in. This information is then incorporated into the investment decision making process.
The industry has woken up to the importance of measuring performance against external benchmarks through the increased range of sustainability measures and standards such as the GRESB assessments.
In 2018 for example, 32 of the underlying funds from our flagship commingled funds, participated in the GRESB assessments representing 79% of the overall product1. 30 of these funds were awarded a Green Star status, which is the highest recognition available and overall, the aggregated score was above the benchmark average2. Buildings with better sustainability scores not only enhance performance whilst benefitting the environment, but sustainable buildings also command higher rents to also benefit investors.
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