August 11, 2016

In its latest annual report, released in July, China Investment Corporation (CIC) highlights how important global real estate has become to the sovereign wealth fund’s investment strategy.

“For long-term asset investment, we ramped up investments in assets that generate stable returns such as real estate and infrastructure,” notes CIC. To date, it says, that has translated into more than 40 real estate investments across North America, Europe, Asia and Oceania.

According to news reports, CIC – one of the world’s largest asset owners – has invested more than US$5.5 billion in property developments since 2013 . In 2015 alone it pumped more than US$3 billion into overseas properties , including partnering with AEW Europe in the US$1.35 billion acquisition of 10 shopping centres across France and Belgium.

No alternative
While CIC remains China’s largest cross-border real estate investor, other institutions are following suit. Figures from the China Insurance Regulatory Commission show Chinese insurers’ allocations to alternatives as a whole have soared since 2012 to more than a third of their assets, leapfrogging bonds.

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ADIA, GIC, Temasek, KWAP and the Australian Future Fund have all recently announced plans to put more money into alternatives too, as they struggle to generate the returns they need through equities and bonds.

A recent JPMorgan Asset Management survey points to a similar story among Japanese corporate pension funds. It found approximately 70 percent of respondents now invest in alternatives, which account for 17 percent to 18 percent of their portfolios, second only to domestic bonds .

Overall, respondents’ asset-weighted allocation to alternatives hit a survey record of 14 percent for the fiscal year ended 31 March, as the pension funds turn to real estate, infrastructure and private debt to deliver the stable returns sovereign bonds once offered. And with negative rates on Japanese government bonds further diminishing their attractiveness, the survey reported that almost half of respondents are changing or considering changing their investment policies.

“With the move to near zero or negative interest rates in more and more countries, institutional investors around the world are really struggling to achieve the sustainable income they need,” says David Green-Morgan, Global Capital Markets Research Director at JLL. “Fixed income yields are dropping to almost nothing. And even if you want to put money into fixed income, central banks are so active in the market that it has become difficult to buy bonds.”

In this ‘lower for longer’ global environment, real estate is no longer an alternative – it is transforming into a mainstream asset class.

Real benefits
For those investors with the right liquidity profile, global real estate offers the characteristics institutions crave: a consistent, long-term income, plus the potential for the investment’s value to rise over its duration.

“Real estate is no different to other assets in that there are cycles, when rents will rise or fall,” says Green-Morgan. “However, in most markets investors can lock in those rents for a long period through the property leases. So you can plan how much income you will receive more confidently than with other asset classes.”

An additional attraction is that investors can improve the asset over time through capital expenditures, notes Green-Morgan. “That can help boost your income by enabling you to charge higher rents.”

These strengths are borne out by a new PGIM study. It broke down the performance of various hedge fund, private equity and real estate investment strategies from January 2000 to March 2015 to determine the alpha and beta exposures of each. According to PGIM’s research, real estate – encompassing core, value-add and opportunistic real estate – fared particularly well, delivering the highest alpha among the strategies studied (along with leveraged buyout private equity), as well as attractive diversification characteristics.

Overcrowding issues
Real estate’s increasing attractiveness comes at a price though. For while more money continues to flow into the sector, it tends to be focused on the same assets in the same cities.

“About 30 major cities around the world account for over 50 percent of all transactional volumes,” says Green-Morgan. “They have been magnets for a lot of this institutional capital because they tend to have the most stable property markets.”

But that is having an inevitable impact on asset values and yields. “One of the big challenges for real estate over the next five to 10 years therefore will be how to attract more capital flow into different locations.”

This shift is starting to happen, as investors seek out higher yielding opportunities in secondary locations or ‘alternative’ real estate sectors.

“For instance, investment in student housing, which has seen particular growth in the UK, is now moving out to other locations in Europe and around the world,” notes Green-Morgan. “Another area where we are seeing strong demand from institutional capital is logistics portfolios, especially across Europe and the United States. Assets in smaller U.S. cities such as Seattle, Austin and Portland are also gaining attention as they become more investable and tradeable.”

For new investors that lack familiarity with these alternative sectors or locations, partnering with experts in the local markets is an effective way to unlock some of these extremely attractive assets. “We are seeing more examples of groups from across the world that are prepared to work together to gain exposure in markets they may find daunting to access otherwise. And I think that trend will increase.”


David Green-Morgan

Global Capital Markets Research Director, JLL

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