- December 1, 2018: Vol. 10, Number 11

Food for thought: Investors and managers tackle tough industry questions

by Dr Jennifer Molloy

The Editorial Advisory Board of this publication met in Seoul in late October to discuss the critical issues facing the institutional real estate industry. The editorial board of Institutional Real Estate Asia Pacific comprises institutional investors, consultants and investment managers.

The event includes confidential, small- and large-group discussions on the industry’s most pressing concerns, which we compile from board members in advance in the form of “food for thought” topics. Below is a sampling of these issues, which will help guide the content of this publication in the coming year:

Interest rates and inflation: What is the “new normal” in terms of interest rate expectations? How will rising interest rates affect real estate markets and real estate allocations in general, and in particular the outlook for US long-term bonds vs fixed-income alternatives? How will real estate perform in an environment of rising inflation and nominal bond yields? Will real estate lose its attractiveness as bond yields rise? What is your inflation outlook and, based on that outlook, how do you expect inflation will impact real estate markets? Which real estate sectors have benefited the most from investors’ focus on “growth” in recent years, and are these sectors at risk when “growth” switches to “income/value” as central banks continue to withdraw liquidity? Which asset classes and property sectors will benefit from this switch, if any?

Return expectations: Given rising interest rates, what total-return expectations should investors expect across the Asia Pacific region by property sector? What is the level of global debt today, and how should we be reacting to it? In particular, how are US public- and private-debt levels affecting global markets and the timing of policies, such as tax cuts? When do you think the next recession will hit the United States, and what will cause it? How wide will it spread? Or do you think a recession is more likely to be triggered by factors unfolding in some other region (like the unfolding of the Brexit, for example)? What can you do/are you doing to position your portfolio for the next downturn? Given lower total-return expectations, are we seeing greater pressure on manager fees? Is active asset management becoming a more critical driver of growth as occupier markets are evolving rapidly, with changing demand for real estate?

Trade wars: What should we expect with tariffs and trade wars? How (if at all) is the trade war/tarriffs influencing your thinking regarding allocations to Asia Pacific? To North America? To Latin America? To Europe? What can investors and managers do to prepare for the impact of rising tariffs/trade wars on the real estate sector? Are you currently doing any of these things? Why or why not?

Risk assessment (part 1): What are the major trends/factors determining your strategy in the next three years with respect to your primary target markets? Are you or your clients exposing yourselves to “career risk” when allocating to strategies unrelated to the composition/performance characteristics of the NCREIF Fund Index – Open End Diversified Core Equity (NFI-ODCE)? If so, do you see this as a risk to diversification as the US market enters a later cycle? How are you currently thinking about core and higher-risk strategies? Are you advocating both or favouring one to the exclusion of the other?

Risk assessment (part 2): What opportunities and risks are not adequately priced into real estate sectors at present? Will the reversal in globalisation in recent times lead to less cross-border real estate investment in the future? Global residential markets are increasingly policy driven (affordable housing, demand control measures, rent control measures, etc). Can policy risk like this be priced and, if so, how? Or should you simply avoid exposing yourself to these kinds of risks? Should Shanghai and Beijing be seen as core cities in Asia today, on par with cities like Hong Kong, Singapore or Seoul? If so, why? If not, why not? Which of the most well-loved niche asset classes (logistics, student housing, self-storage, senior care, medical office, single-family rental housing) carry the most risk? Why?

Investment strategy: Are real estate and infrastructure appropriate investment substitutes for each other in a real assets–oriented portfolio? Or do they bring distinctly-different attributes to the portfolio? Are publicly-traded REITs appropriate substitutes for direct real estate in a portfolio-construction context? If not, what role can publicly-traded REITs play in a well-diversified portfolio? External investment consultants vs internal teams: What is the optimal balance between the two? What is the most favourable investment structure for overseas real estate investment? What is the best strategy for currency hedging for overseas real estate investment? Or has the cost of currency hedging become prohibitive? If prohibitive, what impact is this having on your desire to continue cross-border investment activities?

Debt investment: Do you consider real estate debt investments to be a permanent part of your real estate investment portfolio? If not, why not? And if so, what role do they play, and where do they fit within your portfolio? Why are there so few debt products in Asia Pacific, where debt arguably could be considered more attractive than equity given current capitalisation rates? What is the best ratio between debt-financing investment and equity investment for overseas real estate?

Market timing: Where do you think we are in the market cycle right now? How long do you think the current market can continue before it turns downward again? Which, if any, real estate markets and property types still appear attractive on a risk-adjusted return basis at this point of the cycle? Do public markets offer a better opportunity than private markets right now? Office yields: How much lower can they go? Have we passed peak negative sentiment toward the retail sector? Have logistics assets become overbought due to high investor demand? What are the current supply-and-demand dynamics for the logistics sector across the Asia Pacific region? Excluding student housing and senior housing, what other niche sectors do investors currently consider attractive, such as data centres, co-living, medical office, etc?

Pricing: As monetary authorities around the world look to exit quantitative-easing programmes — each at a different pace and time — how should investors view current pricing levels and the global outlook? What investment or asset class is most mispriced by the investment community right now? How can we be comfortable with doing core strategies at record pricing when the interest rate cycle is moving up? Are we really looking out for our beneficiaries who entrust their pensions and savings with us? Are we underwriting conservatively enough, or is a general consensus building that “this time it will be different”?

Property trends: What is the future of the office market and the impact from downsizing, remote employment and co-working? What is the future of senior living in Hong Kong? What are the main trends affecting senior living in your main markets? What have you seen as extremely-successful approaches in your primary target markets to addressing the millennials market, with respect to residential, commercial and hospitality properties? Will residential-for-rent in China become truly investable for international capital?


Dr Jennifer Molloy

Senior editor, Institutional Real Estate Asia Pacific

2 November 2018

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