COVID-19 crisis: a real estate perspective
In an open forum, we gather the thoughts of Christoph Schumacher, Head of Global Real Estate, on the recent performance trends and potential opportunities in the world of real estate investment.
How has the asset class performed so far this year?
Contrary to perceptions, we actually enjoyed a very strong first quarter and have substantially outperformed our budget. However, the impact of COVID-19 will unquestionably make its mark in Q2. Prices have fallen, quite simply because it is impossible to perform a proper valuation of the assets and carry out adequate due diligence in a lockdown environment. There is a limit to the extent of the analysis we can carry out remotely and the majority of the due diligence process has to take place on the ground. We have already had to postpone one intended acquisition in Asia as a result of these limitations.
In 2020, loan-to-value ratios are significantly lower and there is a lot more equity in the market.
How does the current environment compare to that seen in the global financial crisis?
Back in 2008, we saw lots of distressed selling because investors were highly lever- aged. Banks with non-performing loans repossessed properties and became forced sellers, with asset prices falling sharply as a consequence. In 2020, loan-to-value ratios are significantly lower and there is a lot more equity in the market. Those investors on the sidelines awaiting a 2008-style wave of distressed selling will probably be disappointed, as real estate is typically a very resilient asset class. However, we expect to see some interesting opportunities later this year.
Which segment of the market has been the worst affected?
Unsurprisingly, the retail space has suffered the most. In addition, the trend toward online shopping has accelerated rapidly during the crisis so far. However, it is important to bear in mind that although UK and US shopping malls have been under pressure for years, the same is not true for Continental Europe, which had proved far more resilient prior to the pandemic. We appreciate how difficult life has become for retailers and we were the first of our peer group to offer a rent holiday in Switzerland in April for the benefit of investors. This is a good example of there being more to the effective management of a real estate portfolio than simply buying and selling properties. Looking ahead, we believe that people enjoy the physical shopping experience, so we expect footfall to recover swiftly once restrictions are lifted.
And which has proved the strongest?
The clear beneficiary of the pandemic is logistics, as companies such as Amazon have sought to expand their distribution networks. One key aspect of logistics property is that it is not a one-size-fits-all market; the asset has to match individual requirements. As such, we are seeing a lot of demand across Switzerland and Continental Europe for the right properties. However, this is a very specific asset class within real estate and demands a high level of knowledge and experience in each local market.
Has the working-from-home issue changed your view on the office sector?
We came into the crisis with exceptionally low office vacancies (rates of 2% or less) in major cities across Continental Europe and Japan. Clearly, many people have had to become accustomed to working from home in recent weeks and months. Although we believe that workers appreciate flexibility, most would choose to attend their official place of work over staying at home because they enjoy mingling with their colleagues. We are very active investors in the office sector, buying and selling properties each year with a focus on the quality of the underlying cash flows. We concentrate on prime locations. It is our core business and we believe that, in addition to low vacancy rates and resilient yields, the sector benefits from the structural support of low interest rates and supply constraints in these circumstances. We expect less new supply in the markets in the near future.
The opportunity to invest in real estate has become more compelling as entry levels are attractive and the spread between bonds and property yields is enticing.
Which other sectors do you favor?
We hold significant exposure to the residential market in Switzerland. Residential is typically the sector that is least vulnerable to swings in the business cycle and Switzerland offers one of the most stable residential property markets.
Can you explain why you believe now is a good time to invest in real estate?
The real estate market has endured a correction in recent weeks for various reasons. In Switzerland, for example, a number of institutional investors entered the crisis with a maximum real estate exposure of 25% in their portfolios, which they had to reduce as the price of other investment assets came under severe pressure. Consequently, the opportunity to invest in real estate has become more compelling, as entry levels are attractive and the spread between bonds and property yields is enticing. In addition, physical assets, such as gold and property, can act as a store of value during periods of crises. As such, we believe there is some pent-up demand for real estate among certain investor segments, especially private bank clients who wish to secure their portfolios with a larger allocation to real estate as a safe haven in uncertain times. Finally, real estate is both a valuable portfolio diversifier, because of its low correlation with other asset classes, and a diversified asset class in its own right, as geographical, regional and sectoral influences affect performance in different ways at different times.