What investment opportunities are there in real estate?, May 2022

Property is a bit of an obsession with us Brits. We grow up dreaming of owning our own home and it’s the main topic of many a dinner conversation with friends.

And even when we don’t want to buy or sell, we can’t seem to help ourselves. The Rightmove app is one of the most used on my phone and I can waste hours looking at what home I could afford in other parts of the country.

But when it comes to our investments, property just isn’t that popular. Just 1.6%* of UK retail assets are invested commercial property and, at a time when it should be doing well due to its inflation-protection qualities, the sector is in redemption*.

Here, we look at property’s sub-sectors and the opportunities for investors willing to go against the herd today.

Workers return to the office

“The global pandemic created uncertainties for the future of commercial real estate,” commented Nigel Ashfield, co-manager of TIME: Commercial Long Income fund. “As companies were forced to move to home working, there were predictions that this model would become permanent. However, hybrid working appears to be the favoured approach as the world emerges from lockdown, and commercial property is still very much in demand.”

According to Cohen & Steers, whose Global Real Estate Securities fund has recently been added to the Chelsea FundStore, the pandemic may have accelerated the work-from-home movement, but other factors—such as employees’ commutes and workforce demographics—could have a greater influence on the long-term impact of hybrid work arrangements.

“Employees facing long commutes from the suburbs may embrace a popular post-pandemic employer policy: in the office two or three days a week and at home the rest of the time,” the company said.

“In large gateway cities, where a high percentage of workers rely on public transportation—which many may not be comfortable using for health reasons—this hybrid work arrangement may mean work from home has a lasting impact on how much office space tenants need. On the other hand, workforce demographics could play an opposing role. People earlier in their careers may favour in-office work to learn, network and become known as dedicated, valued employees.”

Marcus Phayre-Mudge, manager of BMO European Real Estate Securities, agrees. “As pandemic lockdowns and rules have eased, the return to the office has been stronger and faster than expected in cities with shorter commuting times,” he said. “Offices are almost full in places such as Stockholm, Guttenberg, Milan, Madrid, Berlin, Munich, Geneva and Zurich. To me this reflects the benefits of being in one workplace together - sharing knowledge and collaboration with colleagues.”

Hugh Sergeant, manager of ES R&M UK Recovery is also seeing this as an opportunity. “Real Estate stocks have sold off quite aggressively during the latest bout of big picture worries,” he said. “This has left stocks such as British Land and Capital & Counties trading at material discounts to NAV despite their strong inflation hedge credentials and their robust recent fundamentals.

“London seems to be back to its vibrant and busy self, with strong foot fall and activity, positive for both these property companies which nevertheless have seen their share prices fall significantly. We have been adding.”

Will shoppers stop shopping?

“There have also been commercial real estate winners borne out of the pandemic,” continued Nigel. “Real estate sectors, such as logistics, have benefitted from structural changes within the retail market, picking up the lost revenue from the high street.”

“We’ve seen a 50%-60% drop in absolute values of UK shopping centres,” added Marcus. “Some of these properties were getting to a point where they were starting to look interesting again but are now overwhelmed by the anticipation of a consumer slowdown.

“The energy crisis and increase in mortgage costs will put a dampener on consumer expenditure for a while to come. I’m more optimistic about continental Europe. Europeans tend to rent rather than own and have a bigger social safety net. For example, the energy cost increase has been capped in France.”

And while Amazon’s pullback has hit the logistics sector in recent days, managers still believe this area to be attractive.

“I don’t expect rental growth in logistics to disappear, but to moderate,” said Marcus. “Amazon’s pullback is a bellwether, but investors should be careful not to over emphasise the impact of Amazon on the market. Last mile and urban logistics continue to do very well and there is a perpetual shortage of land for these assets.”

Recession-proof real estate

“Listed real estate has distinct characteristics that can provide a buffer to inflation,” said Cohen & Steers in an update. “For example, sectors with shorter lease durations—such as self-storage—have the ability to reset rents promptly as conditions change. In case of slow growth—or even recession—longer inflation-linked rental contracts offer relatively strong and steady income growth potential.

“Sectors that are less cyclical, where demand is less influenced by the economy, have also seen continued performance,” continued Nigel. “These include healthcare and social housing, which all continued to operate throughout the pandemic, as the services and care provided at these properties are essential. Such sectors are indicating long-term trends, highlighting increased demand in the future and are also heavily undersupplied in terms of quality real estate available.”

The investment advisors to the VT Chelsea Managed Funds have also found several opportunities in care home, healthcare and logistics REITs over the past few years and continue to invest in them today.

“While some uncertainty will continue within some commercial real estate sectors, as the world adapts to a new normal post-pandemic, the negative forecasts for the sector as a whole appear overblown,” concluded Nigel.

Indeed, this negativity has resulted in a discount to net asset value of 22.4% and 23.3% for Continental Europe and the U.K., respectively, according to Cohen & Steers. “Real estate securities are trading near the lowest levels in a decade,” it said, “and discounted valuations have historically been a buying opportunity for European REITs.”

*Source: Investment Association, net retail sales, March 2022.
**Source: Cohen & Steers, 31 March 2022.
Past performance is not a reliable guide to future returns. You may not get back the amount originally invested, and tax rules can change over time. The views expressed are those of the fund managers and do not constitute financial advice.