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June 5, 2018

Fueled by a resurgent oil price, Middle Eastern buyers are once again stepping up their overseas real estate investments, making the region an increasingly important source of global capital.

After the investment highs of 2013, when flows into global commercial real estate hit US$13.7 billion, transaction volumes fell to US$9.1 billion by 2017. A sharp dip in oil prices, combined with intensified competition from other buyers for assets in global gateway cities, especially London, were behind much of the drop. But with oil prices now back above $70 per barrel for the first time since 2014, we expect overseas real estate transaction volumes to pick up once more in the coming year.

However, the pattern of those investments is changing.

Seeking out alternatives
Historically, Middle Eastern investors have focused on offices and hotels, which accounted for approximately 85 percent of annual commercial real estate investment flows from the region. That mentality is now shifting.

“Yield compression in key European cities over the last five years, coupled with a constant quest for yield, means investors are moving up the risk curve as they look beyond increasingly expensive mainstream asset classes,” says Fadi Moussalli, Head of International Capital in MENA with JLL.

Diversification to better position portfolios against cyclical downturns is another factor.

Alternative sectors – such as student and senior housing, healthcare and data centers – are benefiting from structural demand growth,” notes Moussalli. “That makes them more resilient in a potential downturn, whereas conventional asset classes tend to be more exposed to pressure from macroeconomic shocks. Alternative sectors had grown to 8 percent of total real estate investment in 2017, and given the amount of interest we’re seeing we expect them to experience a significant increase in volumes going forward.”

Industrial and logistics are also drawing a growing share of Middle Eastern capital, and have now overtaken flows into the retail sector. Smaller average lot sizes and higher yields, plus the comfort offered by blue chip tenants are making these areas highly attractive to investors.

Eyeing broader global opportunities
Diversification is not limited to sector distribution either. With ‘traditional’ developed markets becoming overly expensive, Middle Eastern investors are broadening their horizons, including towards more ‘exotic’ destinations such as South America and Eastern Europe.

1. Europe
London has been the number one destination for Middle Eastern real estate investors for years, accounting for over 25 percent of flows from the region. However, Hong Kong investors in particular aggressively piled into London property in 2017, effectively outbidding Middle Eastern buyers.

“We expect Middle Eastern investors to regain their competitiveness though, and to dive deeper into other established European real estate markets, such as Germany,” says Moussalli.

Yet within these markets the investment patterns are also changing, with activity spreading away from gateway cities towards second-tier locations. For example, 50 percent of Middle Eastern flows into the UK in 2017 targeted the country’s regions, rather than Central London.

2. United States
Middle Eastern investment into the United States slumped to US$1.4 billion in 2017, reflecting the initial nervousness surrounding Donald Trump’s arrival in the White House.

“However, flows are likely to recover as the political situation stabilizes and investor appetite for exposure to the U.S. returns,” says Moussalli “The majority of GCC countries’ currencies are pegged to the U.S. dollar, so the currency exposure risk is reduced. In addition, the U.S. looks attractive from a pricing perspective compared to key European cities, especially the relatively high risk-adjusted returns on offer in the multifamily sector.”

3. Asia Pacific
Middle Eastern investor interest in Asia Pacific remains tentative and few private investors have sought exposure to the region’s real estate thus far.

“Mature Asian countries tend to be seen as relatively expensive, while emerging Asian markets are perceived as risky, illiquid and not well understood, so we expect this trend to continue in the short to medium term,” notes Moussalli. “The exception could be Australia, where the attractive returns available in markets such as Sydney, Melbourne and Brisbane are coupled with reduced currency risk.”

Nevertheless, longer term we expect the need to balance global exposure to eventually take Middle Eastern investors to Shanghai, Jakarta and other fast-growing cities in the region.

“They will most likely come to accept the risks of a ‘rockier ride’ in order to participate in the demographic and economic growth story where it is at its strongest,” reckons Moussalli.

Click here to read about the top 4 challenges facing real estate investors.

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Fadi Moussalli

Capital Markets, JLL MENA

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