Market consensus now has equities flat to negative in 2016. Much of it is due to rate hikes and an end to QE in the U.S. After that, China and oil are to blame for everything else. It’s hard to find an equity bull except at the value funds. Bonds? Forget about it. Outside of a handful of emerging market local currency debt managers, global bond funds are bracing for a drought.
“Volatility is likely to rip through financial markets in the first half of 2016. Today’s turbulence is only the beginning,” says Nigel Green, CEO of deVere Group, a financial advisory firm based in the U.K. “There’s a cocktail of uncertainty, with the main ingredients including China’s economic woes, higher interest rates in the U.S., historically low oil prices, Britain’s referendum on exiting the European Union, and increasing tensions in the Middle East,” he said.
For fixed income, Christopher Wyke of Schroders in London adds his pocket full of six pence to the table: “We are entering a period of a bond bear market that I think will last the next 25 years.”
So where’s the safe haven with a plausible return on investment this year? For Colliers International, 2016 is the year of real estate.
Investor sentiment toward real estate is projected to remain positive, according to Colliers Global Investor Outlook 2016, released on Monday. Primary target markets will continue to draw the most interest, with moderating risk appetite, stable economic conditions, and low interest rates driving increased investment in secondary markets. Transactional activity in the first 9 months of 2015 brought in $625 billion of direct property investment worldwide, representing an 11% increase over the same period of 2014, according to Real Capital Analytics. This year is expected to be even more.
“Our report suggests that…long term secure investment in core markets will be the norm,” says John B. Friedrichsen, CFO of Colliers International. “Large volumes of capital already raised will increasingly seek out opportunities in tier-two cities and in recovering markets.”
Of the more than 600 investors surveyed, 52% said they will increase allocations towards real estate this year. Only 11% will decrease. Real estate is the one asset where investors are almost unanimously bullish. London, Paris, New York, San Francisco, Tokyo and Sydney are the main targets for direct cross-border real estate acquisitions over the next 12 months.
“Los Angeles and San Francisco are red hot,” says Seth Kaplowitz, an attorney with Blumberg Law Group and lecturer at San Diego State University. Kaplowitz spent over 20 years in Asian real estate, including most recently as founder of Ecotech Design Build Asia, which worked on Asian properties in cities like Hong Kong and Shanghai. He said the Chinese are still investing in California. ”In Los Angeles alone the Chinese have invested close to $5.9 billion. These investors also participate in private money placement for developers. Sometimes the private lending is just easier to deal with than a bank.”
Global transactions are expected to exceed 2014 levels and will approach pre-financial crisis levels in 2016, according to Colliers estimate. More than half of the respondents with multi-asset real estate portfolios said they will add to their holdings in the next 12 months.
For some fund managers, it’s getting harder to meet return expectations, particularly in the “overcrowded” core markets. Cities like New York and London, where entire real estate projects are often built and marketed for wealthy foreigners, are too niche and maybe getting a bit tired. Some fund managers told Colliers that they are having a hard time meeting client expectations in those cities.
On the risk side, there is apprehension that the economic environment could change at a moment’s notice. China and U.S. interest rates are just two issues resonating with investors.
Ironically, despite high risks in the world economy, real estate buyers are taking on increased debt to fund purchases. It’s a “when all else fails” approach that keeps real estate hot in most world class cities. Fixed income is largely failing. Rental and lease rates might be as good as it gets.
Colliers said that the equity phase of the cycle is giving way to a debt phase for project finance. This is particularly true in Europe, where interest rates are likely to stay low for longer and further QE rounds from the European Central Bank are expected to make real estate the new fixed income play for Western Europe.
Big Cities, Preferred Properties
Within the Americas, the U.S. is the only place to be with 94% saying they will increase their investments here this year. Only 5% said they will be investing more in Mexico and even less said so about Brazil. Within the U.S., the top three cities are San Francisco (27%), New York (24%) and Los Angeles (22%). Logistics, such as warehousing, office space and shopping malls are the top three candidates for increased investment this year, according to the Colliers survey.
In Europe, the U.K. is far and away the hot spot with 63% adding to their property portfolios there this year. London (43%) takes the cake, of course, followed by Paris (19%) and Frankfurt (14%). Offices, shopping centers and luxury retail are among the top three investments in continental Europe, while U.K.-bound investors are after office space, logistics and residential properties.
In Asia, Japan and Australia take a commanding share of investment capital, followed by Hong Kong, China and Singapore. A little over a third of respondents said they will be allocated more funds to real estate there. The top cities are Tokyo, Sydney and Melbourne. Within the emerging Asian markets, only Beijing and Shanghai top the list. Office space, residential and logistics are some of the biggest targets in those markets this year.
For retail investors who like this idea but don’t have a million dollars to burn on studio apartments on the Upper West Side, there are exchange traded funds for this market. The three largest include State Street Bank’s SPDR Dow Jones International Real Estate (RWX) fund; Vanguard’s Global Real Estate Fund ex-USA (VNQI) and the U.S. overweighted SPDR Dow Jones Wilshire Real Estate (RWO) fund. They sort of track one another with the exception of RWO, which has the U.S. to thank for its alpha. Over the last 12 months, all three have underperformed the Dow Jones Real Estate Titans 30 Index.