The Uncertainty Principle
Enclosed is the latest ConduitRE weekly note on the impact of the Covid-19 crisis on the European real estate market, which is co-written with Independent Property Analysis, run by James Roberts, former Chief Economist of Knight Frank.
- Fund anticipates more deals closing in Q1 2021 than all of 2020
- Over ￡1 billion of real estate capital looking at the Life Sciences sector in the UK alone
- Hotel financings start to slip into high yield territory; in contrast, a logistics portfolio in Germany financed at an all-in cost of 90bps, reflecting pre-Covid levels
February has seen a gradual shift in policymakers’ statements on the pandemic and the economy. In January, officials dampened expectations on when we would see a return to normal; yet last week the Bank of England was upbeat on the near-term outlook. The talk was of a rebound in Q2. This follows signalling that the forthcoming government budget will see the Treasury volte-face, from pumping the economy with money towards tax increases.
Hopefully, the Chancellor’s budget will set out tax rises that come later in the year, or better still in 2022. Raising taxes while so much of the economy is in lockdown would be very premature. Nevertheless, the above shows the Treasury and the Bank of England are now planning for normalcy, and see it happening sooner rather than later.
This bodes well for a property market that is now betting quite significantly on a near-term recovery. One of Britain’s largest fund managers told Conduit Real Estate that Q1 2021 will see them complete more deals than in the whole of 2020. That does include some legacy deals from last year, but nevertheless it is representative of improved sentiment. A life sciences park which is up for sale, has received 48 inspections and 20 bids at, or near, the asking price. Also, New York State Teachers Retirement System has approved $550m of new real estate commitments, including $300m to Blackstone’s Biomed Life Science fund.
Life science real estate is now emerging as a preferred sector this year – one agent told us there is over ￡1 billion of capital looking at the Life Sciences sector in the UK at the moment – and conversations last week with major funds revealed continued interest in PRS in gateway cities, Parisian offices, and (unsurprisingly) logistics everywhere (a portfolio of assets in Germany was recently financed at 90bps).
On offices, we heard messages that could reinforce either confidence in their future, or pessimism. Listed Swedish company Fabege noted this week that "for various reasons customers have opted to terminate their leases or reduce their office space". Real estate fund managers seem to be leading the way and have or are in advanced planning of reducing their London office occupation, thanks to greater use of home working. Some are even planning to rethink job titles and phraseology so there is no negative connotations attached to people who mostly work remotely compared to those in the office. One such fund told us that they have in the space of just two years switched from zero exposure to ‘beds’ type property, to it making up 25% of their portfolio. This demonstrates that some feel they need to hedge their office commitments with something uncorrelated.
On the other hand, rent payments figures for offices remain strong, suggesting few are thinking about walking away from offices altogether.
This sense of determination to get on and trade is similarly evident in the debt market, with more reports circulating of loans at higher LTCs. A recent loan on a hotel in Southern Europe was issued at 70% LTC, albeit with a salubrious IRR of 16%. This shows there is now significant risk appetite, provided the return justifies it. ConduitRE are also hearing of a few lenders who may be preparing enforcements and discounted sales of their hotel loans.
Overall, a sense is emerging that the market is on the brink of change, probably a rebound. However, that needs to be caveated with the warning that no one is talking of champagne corks popping, just a move closer to normality. This downturn will have a big wake, and we have yet to see what pricing looks like for shopping centres when the market reopens: news that a shopping centre in Coventry was sold for less than ￡5 million last week and NatWest is offloading an NPL portfolio mainly consisting of retail has reinforced this point.
There is also continued uncertainty on how much office space will return to the market later this year and early next. Even normally bullish agents conceded this week that there will be a 10% reduction to existing office space in London over the next 5 years given the structural changes brought on by WFH. Investors' only conviction in the current market seems to be the uncertainty.