The past few years have seen an increase in demand for private capital with regards to real estate investments. Research suggests that over 50% of investors will look to commit to private core real estate funds throughout 2016. This is perhaps not surprising with the increasing need for diversification in asset management; a trend which is becoming increasingly evident in today’s market (Read our recent blog on 2016 Market Impacts for more). With the need for diversification in mind, real estate fund structures deliver an attractive prospect for investors and as a result they are expected to commit over $50bn to this sector 2016, an increase of almost 13% compared with 2015. The steadily increasing injection of capital into real estate has traditionally been dominated by London and the US, yet today we are seeing an increasing amount of vehicles raised for deployment in core properties across Asian and Middle Eastern cities. As confidence returns to the real estate sector, the industry faces five key fundamental shifts that will shape its future:
1. Emerging Economies and Urbanisation: Migration to cities
The economies and communities in Asia and the Middle East both have a well established history of population migration from the countryside into cities. This happens on a daily basis and is a phenomenon that shows no signs of slowing in the current political climate. The more people seeking out accommodation in urban areas the more urgent the demand for construction becomes, therefore the opportunity for investment in these markets is great. Global management consulting firm, McKinsey & Company, highlighted the importance of opportunity in the emerging markets as a result of urbanisation by stating that cities such as Foshan, Porto Alegre and Surat are set to contribute more to global growth than Madrid, Milan or Zurich.
With the ever increasing importance of emerging markets across all aspects of investment management, the upward curve of real estate investment opportunities is beginning to influence competition across allocators looking to maximise their exposure in emerging economies in the southern hemisphere.
Based on the growing demand for real estate evident across all economies on a global scale, the expanse of investable real estate seems destined to become paramount for emerging economies. In a recent report PwC suggested that the global stock of institutional-grade real estate would double in less than a decade, reaching $69.0 trillion 2020, and that cities worldwide will need to spend at least $10 trillion more on building physical capital per year.
2. An Increasing and Aging Population: The Demand for More Specific Types of Real Estate
As populations evolve and the balance between older and younger generations continues to shift the demand for different types of property across the world is becoming more diverse; with sectors such as education, healthcare and retirement becoming increasingly important for real estate investors.
It seems that these changes are only set to accelerate and in a recent report published by the United Nations in 2015, World Population Ageing, the trends noted were unequivocal, “Between 2015 and 2030, the number of people in the world aged 60 years or over is projected to grow by 56 per cent, from 901 million to 1.4billion, and by 2050, the global population of older persons is projected to more than double in its size in 2015, reaching nearly 2.1 billion”. As the population continues to age, more healthcare and retirement infrastructure will be required whilst pressures to generate more food for all these people will assist the increase in demand for agricultural land. The agricultural ‘land grab’ has meant acreage prices are proving resilient as larger institutions push investment momentum forward and the farmland REIT continues to acquire more acreage.
From an urban living perspective, communal living or ‘urban co-living spaces’ are on the rise and are already popular in metropolitan cities such as London and New York. This enterprise has emerged as a feasible alternative for young professionals due to its affordability in the current housing market; prices are continuing to soar resulting in the number of 18-35 year olds living with roommates doubling since the 1980’s. Global property manager WeWork is reportedly set to make $636m by 2018 through investing in communal work and living spaces while amassing as many as 34,000 members by this time. This type of communal architecture benefits not only individuals by providing an alternative living or working option, keeping costs manageable, but also benefits the state of the local economy by fitting more rooms and people into one building whilst taking out the requirement of a kitchen or living area in every individual apartment or office.
3. The Impact of Environmental Concerns on Real Estate: Climate Change and Regulation
Climate change, high energy prices and new regulations in this area are raising the importance of suitability on the real estate agenda. Governments across the globe are becoming ever more interested in sustainability for their regions and real estate managers might want to think about getting ahead of the curve by ensuring they work with their local authorities and ruling bodies to be confident that any schemes put into place are workable and mutually beneficial. The risks associated with climate change are very real and therefore real estate investors need to evolve and adapt their risk management procedures to allow for changes in this area. Working closely with central and local governments to mitigate risk should be a fundamental part of any real estate fund strategy.
Some governments are looking to build entire new cities of eco-construction in order to reduce their environmental impact and these factors pose both risk and opportunities for real estate asset managers. These managers must look to ensure they are compliant and efficient in their investments to maintain a competitive advantage and manageable operating costs.
4. The Rise of the Mega Real Estate Manager: Investing in Real Estate on an Vast Scale
The cost of prime location real estate is on the rise and this will only continue as urbanisation takes hold, not only in the emerging economies but also within western nations where competition within real estate is high. As affordability falls, as seen in London with “generation rent”, developers are looking to maximise space and build upwards in order to fit more commercial and residential real estate and construction opportunities into increasingly densely populated areas.
With the volume of building over the next five years set to reach unprecedented heights, quite literally, large institutional firms such as pension funds and endowments are injecting new levels of dry powder into this market dwarfing the investments of smaller funds and creating a new class of mega real estate manager. Pension funds in particular are increasingly allocating capital to real estate investments to maximise their returns through a long term investment outlook. With the majority of routes into this market being illiquid, real estate allocations are particularly suited to this type of large manager which encourages large placements from institutional investors that dominate the market.
5. Increasing Complexities in the Real Estate Landscape/Arena: Wider Range of Risk and Return
Real estate has long development cycles so managers need to be forward thinking and plan ahead to minimise the impact of this on their investment strategy and breadth of portfolio. Historically, real estate performance runs in line with the mainstream economy whereby liquidity and market risk tend to have a greater effect on the more growth-orientated funds due to an intrinsic link to market demand. Whilst sentiment toward real estate investments is predicted to remain positive, the risk lies in economic weakness. The problems experienced in China recently have exposed this potential issue, yet the Colliers International Investment Survey stated that of the 600 investor respondents, 44% indicated they were likely to take on more risk in 2016. The complexity of risk, and the appetite for it, will vary based on geography; the development of local tax structures, laws, eco-polices and political climates further complicates investment strategy and demands expert local knowledge from investors and managers alike.
There is clearly an abundant amount of opportunity within the real estate sector but with it comes increasing potential for risk. In a crowded market, fundraising could be the biggest issue faced by managers in this space. Mid-size real estate funds may struggle in the wake of continual waves of capital flowing into the sector via larger institutional managers and big name pension funds forming a new breed of mega-manager. Yet as economies of scale become ever more important, there is still opportunity across the board in this demand driven market. At a time when communities worldwide require an increasingly diverse range of accommodation types and the global population ages at a somewhat alarming rate, the resulting milieu is a growing number of varied real estate investment opportunities. Although urbanisation is occurring everywhere on some scale, investors need to seek out the cities that will deliver long term returns to gain a competitive advantage. As regulation increases and environmental concerns shift the political landscape for infrastructure, a wider range of risk and return continues to impact operational procedures and methods for investing. In this changeable and opportunity rich market it will be the forward thinking managers with the ability to anticipate emerging trends, capitalise on developing opportunities, and work with local governments that will reap the rewards.
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