INVPRP_10_014_Mid_Quarter_Property_Update_Q2_v5_T
Standard Life
Investments
Global property themes
Liquidity still pouring into property
A significant volume of liquidity continues to target global real estate. Bank restraint and an ‘amend and extend’ approach to refinancing has so far resulted in a severe supply/demand imbalance for property assets. We expect this to moderate in the second half of this year with banks working further through their loan books and government asset protection schemes likely to be selling stock in the most competitive markets. That said, the supply is unlikely to tip the balance too much in favour of buyers.
Lack of supply is underpinning capital values
The lack of supply of stock has underpinned a more rapid bounce in capital values than was widely expected. Some western property markets, such as the UK, have moved to ‘fair value’, while some Asian markets now look expensive, for example China. Many of our favoured markets, including France and Australia, still look good value.
Limited space is keeping tenants occupied
Tenant activity remained more resilient last year than expected, particularly in markets with less exposure to financials, such as Paris. Asian property hubs such as Hong Kong also remain robust. The first quarter of 2010 marked a subtle change in tenant sentiment globally, as there was a wider recognition that the outlook for new space is limited. As rents have bottomed, the opportunity to capitalise on ‘cheap’ space is narrowing, which has led to a spike in tenant activity in Central London and the upward movement in rents.
Lending is slowly letting up
Banks, particularly those who were not key lenders between 2005 and 2007, are back and lending again. However, appetite to lend on un-let development remains in the doldrums. Capital markets are a key source of funding, particularly of portfolios and ‘riskier assets’.
The cycle rolls on
Overall, the differentiators of this property cycle remain in place: a slow and gradual economic recovery path, historically low borrowing costs, lack of good quality accommodation, severely limited new stock from 2011, and the increasing dominance of capital markets for finance.
Global property update
Q2 2010
Anne Breen
Head of Property Research, Standard Life Investments
Scarcity of stock
EU Prime Offices - Net Additions
2000 2500 3000 3500 4000 4500 5000 0.02 0.025 0.03 0.035 0.04 0.045 0.05 % of stock
This information is for institutional investors only and must not be relied on by anyone else.
Markets in detail
UK property
• Recovery moderating but still on track –
the UK property market recovery continues although strong momentum is moderating. The most recent data from IPD detailed that prices continued to strengthen in the first quarter of this year, although the pace of improvement has slowed moderately compared to the final quarter of 2010. • Central London offices are leading the recovery–
property agents are generally reporting a strong recovery in occupier demand for Central London offices. Several large transactions have taken place earlier than anticipated and there are now only 15 units over 100,000 sq ft available in Central London. The capital’s recovery is expected to continue to gain traction for several reasons. Firstly, there is a significantly higher level of lease expiries expected in the next few years, due to the large number of long leases signed in the early 80s and 90s. The constrained development pipeline, which resulted from restricted funding during the credit crunch, will also remain supportive.
• Institutions overtake overseas buyers – large
domestic institutions have become the dominant buyers in the UK property market, taking on the mantle from overseas investors who were particularly active last year. UK institutions accounted for 42% of buying activity in the first quarter of 2010 compared to a 27% share of purchasing activity over 2009.
• Banks more willing to lend - there has been
an improvement in the number of banks willing to lend to property and willing to lend in larger quantities. The agent Savills detailed that the thaw in lending to property had improved further and there were now 21 banks, 13 of then from Germany, willing to finance deals in the £30 million bracket.
European property
• Revival in investment markets – sharp yield
compression in the UK has seen European investors turn their attention to domestic Continental markets. In addition, bank lending for property has eased and club deals for x100 million require fewer investors, increasing from stakes of x25 million to x50 million. These stronger investment trends have resulted in yield compression in selected Continental markets, halting the sharp declines in value.
• Retail transactions dominate - investment deals
have largely taken place in the retail sector. Some of the largest have included Corio’s acquisition of a retail portfolio for x1.3 billion, Unibail-Rodamco’s acquisition of the Simon Ivanhoe portfolio and MGPA’s acquisition of two shopping centres in Poland for x235 million. In the office market, there has been a surge in sale-and-leaseback activity, as banks offload retail branches. These have included Banco Sabadell’s x403 million deal with Moor Park and Banco Popular’s divestment of
surplus assets.
• Strong absorption of space - take up remains
resilient and in the stronger occupier markets like Paris, Stockholm and Warsaw, tenants incentives are reducing. Rents are bottoming and there are tentative signs of rental growth in markets where prospective tenants are recognising the shrinking supply of new space. In Paris, a nine-year firm office lease was signed with a rent-free period of approximately two years to June 2012, followed by a rental rate equivalent to that of the last peak. • Subdued construction activity – before the recession
took hold, construction activity in Europe was muted. Although overall debt markets have thawed and lenders are returning to the market, willingness and risk appetite for development lending have not. As a result, new supply of space from 2011 is set to fall to levels not seen for more than 25 years.
UK property initial yields
6 7 8 9
UK property yield still attractive
Paris Office Take-up v Economic Growth
3.0 4.0 5.0 6.0
GDP growth % Paris office take-up(in million m2 )
1.8 2.1 2.4 2.7
US property
• Increased activity – investment activity in the US is
improving, which is leading to better-than-expected pricing. Despite the increase in available product, volume remains muted compared to historical levels. There is a huge volume of capital in the market looking to be placed, which means that any assets that do come to the market are attracting significant attention.
• New ‘lease’ of life for certain markets - leasing
activity has increased in leading markets, such as New York, as tenants look to lock-in cyclically low rental rates.
• Reluctance to expand - absorption still remains
negative in the majority of US markets and expansion by tenants is still extremely rare.
Asia Pacific property
• Asian growth remains strong – economic
growth in the Asia Pacific region maintained strong momentum in the first quarter of 2010. Singapore registered a sharp 13% bounce in first quarter GDP and China is growing steadily at low double-digits. Hong Kong’s recovery, meanwhile, has taken hold as retail sales surged 25% year-on-year in quarter one. Australia and Japan’s growth was more moderate but the conflicting inflation outlook prompted the authorities to take divergent monetary policy.
• Central banks’ action is mixed - the Bank of Japan
is mulling over whether to ease monetary policy to promote bank lending and seek an exit from deflation, whereas Australia’s central bank is fighting inflation by hiking interest rates by 0.75% so far this year. China also raised banks’ required reserve ratios three times to sterilise liquidity and issued the most stringent ever policy measures to curb housing speculations. China’s currency is widely expected to appreciate soon amid the heavy political pressure from the US and the recent voluntary revaluation of Singapore’s currency.
• Housing in high spirits – the housing markets in
Asia Pacific are buoyant. Residential prices rose by mid single-digits in places like Hong Kong, China, Australia and Singapore. Japan witnessed a definite turnaround in condominium sales, as the developers reduced prices after taking impairment charges on old inventories. Various governments have implemented policies to prevent the formation of housing bubbles using a combination of:
- lower loan-to-value ratios for mortgage,
- higher mortgage rates,
- restricting purchases by non-locals,
- higher levies on luxury properties
- and an increase in land supply.
• Office market stabilises - virtually all office markets
in Asia showed concrete signs of stabilisation. Hong Kong led the pack with a 7.5% increase in central business district office rents during the first quarter. China also experienced moderate office rental growth despite prevailing high-vacancy levels. In Japan, the peak of vacancy rates in central Tokyo is now within reach according to most market forecasts. Leasing incentives offered in Australia have fallen from around 30% to 20-25%.
US quarterly Construction levels
0.0 0.2 0.4 0.6 0.8 1.0 1.2 1.4 1.6 1.8 2.0 1982-85 1986-89 1990-93 1994-97 1998-01 2002-05 2006-09 2010-13 % of existing inventor y Industrial Office Source: PPR US construction falls
Monitoring property’s recovery triggers
Below is an overview of the key triggers we monitor that indicate a supportive environment for global property.
Property Triggers Trend Change on last quarter
Margin over govt bonds Close to record level Declined slightly
Margin remains compelling across most markets
Economic fundamentals Improving Some improvement
Asia accelerating, indebted economies lagging but recovering
Flow of capital Improving In-line
Capital sources broad based: REITS, Sovereign Wealth, Pension Funds & Retail Investors
Derivatives pricing Improving Some improvement
Derivatives in the UK are currently pricing in values falling approximately 7% this year compared to 25% decline expected in January
REIT pricing Improving Some improvement
Sector premiums reflect improved confidence in valuations
Fund flows Improving Significant improvement
Positive in-flows
Quantitative easing/stimulus Continuing Further extension
Cautious removal of stimuli likely
Lending Weak Weak
Strong in Asia but remains weaker in the West Sources: Property Data, Morgan Stanley, Cazenove, IMAS, BofE
Key global property market risks
The table below highlights some of the potential risks for global property markets.
Global Risk Factor Current Risk Monitor Outlook for the Risk Factor
Sovereign debt concerns and contagion
Increasing risk aversion by global bond market investors over large budget
Increased for Greece, Portugal and Spain but remains low for developed economies
UK
No change The UK House View is broadly similar to last quarter. We remain most optimistic on Central London Offices and expect the nascent recovery there to gain most traction in the near-term. We are also optimistic that offices in the South East and dominant Shopping Centres and Fashion Parks provide the next best prospects. Although stock-specific opportunities are likely in secondary assets, we remain pessimistic towards lower-quality assets due to elevated availability and vacancies.
Europe
German logistics Neutral to Heavy There has been a marked improvement in German exports and greater demand for German logistics, driving rents and yields. We expect yields to start contracting and are forecasting only a small amount of rental decline in the first half of 2010.
Czech logistics Sweden offices Finland offices Czech retail
Heavy to Neutral These countries went into deep recessions and their slower economic recovery is likely to prevent a quick recovery in the property markets. However, property market fundamentals remain attractive and we will closely monitor the situation.
US and Canada
LA Downtown office Moved to Neutral The downtown office markets continue to improve in terms of fundamentals bottoming and the outlook improving. There was a sharp contraction in capitalisation rates across all product types as there was a slight increase in deal volume at better prices than anticipated.
New York Midtown Upgraded to Very Heavy
New York Downtown office Neutral to Light There remain a number of question marks over future development, and several large, known vacancies in the pipeline.
New York Malls Moved to Light The US consumer sector continues to lag.
San Francisco Malls Moved to Very Light
Class A industrial Calgary Class A industrial Toronto
Light to Neutral In Canada, there was a sharp contraction in capitalisation rates across all product types as a result of a significant increase in deal volume at better prices than anticipated. The Class A industrial markets are approaching bottom as demand turns around in the leading markets, while Class B markets are lagging somewhat.
Edmonton industrial Heavy to Very Heavy
Class B industrial Montreal Class B industrial Toronto Class B industrial Vancouver
Neutral to Light
Asia Pacific
Australia Moved to Heavy Supply is tightening and tenant demand increasing on the back of healthy finances, a well-run economy and strong recovery.
China Moved closer to Light Concerns on government measures to cool the property market including increased stamp duty.
Property House View changes Q2 2010
UK EU Canada US Asia
• Grade A City Off • Core West End • Midtown Offices
• Paris CBD Offices • Paris Dec Offices • Poland Retail • Belgium Logistics • France Retail • France Logistics • Vancouver Retail • Edmonton Industrial • Vancouver Industrial • Ottawa Retail
• New York Midtown Office • Washington Core Office • San Francisco Downtown Office • Sydney Offices • Melbourne Offices
• Grade B City Offices • Other M25 Offices • Regional Shopping Centres <50k sq m • Retail Fashion Parks • Major City Prime Shops
• German Logistics • Belgium Retail • Poland Offices • Poland Logistics • Belgium Offices • Ottawa Industrial • Montreal Retail • Edmonton Retail • Ottawa Downtown Office • Vancouver Downtown Office • Boston Downtown Office
• Los Angeles Warehouse
• Hong Kong Offices • China Logistics • China Retail • Australia Industrial • Australia Residential • Brisbane Offices • Hong Kong Residential
• Retail Warehouse Bulky Goods
• SE Industrial • District Shopping
Centres <50k sq m • Med Town Prime Shops • Distribution Warehouses (London) • M25 West/M4 Offices • Czech Logistics • Sweden Offices • Finland Offices • Czech Retail • Sweden Retail • Finland Retail • Portugal Retail • Netherlands Offices • Portugal Offices • Toronto Retail • Edmonton Downtown Office • Calgary Retail • Montreal Industrial • Edmonton Industrial Class B • Toronto Industrial • Calgary Industrial • Montreal Downtown Office • Inland Empire Warehouse • Chicago Warehouse • New Jersey Warehouse • Los Angeles Downtown
Office
• San Francisco Bay Warehouse
• Hong Kong Industrial • Hong Kong Retail • Singapore Residential • Singapore Retail • India Residential • Shenzhen Offices • Guangzhou Offices • Provincial Offices • Solus RW • Secondary/Small Shops • Distribution Warehouses (ex London) • Provincial Industrial • German Offices • Spain Logistics • Ireland Offices • Hungary Logistics • Czech Offices • Ireland Logistics • Rome and Milan
Offices
• Montreal Industrial Class B
• Toronto Industrial Class B
• Vancouver Industrial Class B
• Vancouver Sub Office • Calgary Industrial Class
B
• Boston Mall • New York Downturn
Office • New York Mall
• Singapore Offices • China Residential • Shanghai & Beijing
Offices • Tokyo Residential • Delhi Offices
