Quo Vadis?

Over the recent past not only, but in particular, professionals in the hospitality industry have come to realize that hotel markets are subject to unpleasant surprises.

The ongoing crisis around the COVID-19 shows the profound impact an epidemic can have on hotel investments. While the memory of SARS faded and Ebola took its toll in countries far away, few imagined or predicted an event would come to ravage the tourism and hotel industry.

The impact so far has been felt hard. Certainly, in markets with exposure to Chinese demand, including mainland China itself, Hong Kong and Macau have seen a sharp downturn in occupancy. Demand has, in many places, dried up. The hardship for hotels impacts two types of people: employees and owners. There is no way to describe the difficulties front line employees and managers are exposed to in these trying times. Livelihoods are at stake and the scale of tragedies that ensue are hard to grasp. On the other side, there are hotel owners and investors. Their forecasts and underwriting will be called into question. The pricing on deals will be scrutinized, potentially pushing the tolerance on risk underwriting and, in an extreme scenario, bringing waves of distress. The lingering irony is in the assumptions that were made in deals. While the vast majority stipulate the potential and upside for markets and outperforming their peers, external shocks, such as from an epidemic are not factored in anymore. The roller coaster that the Hong Kong and Phuket hotel markets went through over the past 18 months shed a light on lightheaded behavior. Prudent investors had been sidelined from the market for some time, as they couldn’t rationalize the signals being sent by market transactions and asking prices.

The question is, once we emerge on the other side of this particular tunnel, what will change? There may have well been other comments and articles writing taking a similar point of view.

On a more slow-moving but far more dramatic scale are the implications that maps of flood predictions for the year 2050 bring. The picture, in particular for Shanghai, is more than gloomy. While there remain naysayers about climate change, the fact that January 2020 was the hottest January ever recorded, almost went unnoticed. A long list of cities are looking down the barrel of a gun and with it, hundreds of hotel assets. At what point will the prospects for an externally obsolete (due to submergence) asset be priced into fair market value? The convenient answer is to put one’s head in the sand and ignore the signs on the front door. Sensible investors, akin to Blackrock’s and the Government Pension of Norway, may look for tangible solutions and timely exit to less astute actors. Joko Widodo, Indonesia’s president, placed his bets in a bold move announcing the relocation of the nation’s capital from soon-to-be submerged Jakarta to East Kalimantan. What should investors make of it? Unfortunately, deal makers and brokers are unlikely to look beyond a 10-year horizon.

What is really needed is a hard look at the current mispricing of risk across the region. Capital values are the current rate are not sustainable. It remains to be seen at what point real distress will have an impact on owners being forced their hand. Two dimensions can help as a guide – what are the local policymakers doing to support their markets to thrive in this ultra-competitive environment for tourism dollars? Creativity is only the first hurdle, the execution of plans more often that not lays bare the weaknesses, not only in the form of funding. The other is to place your bets in the right, long-term location. The map of riverfronts and coastlines in low-lying areas are subject to change. Those changes, while not considered real by many at this stage, are coming our way.

#HVS #hotels #risk 17 February 2020