w133606 m&g re asia pacific outlook jun 2016 · 11.2% of european investors expect to invest in...
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Part of the M&G Group
M&G Real Estate: Asia Pacific Outlook
July
201
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Asian economic growth is expected to average 4.4% per
annum over the next two years – a more moderate pace
compared to much of the past decade, but still significantly
outpacing North America and Western Europe.
Overall, activity across Asia Pacific continues to be
supported by accommodative monetary and fiscal policies
designed to shore up growth in the face of low inflation.
Since the start of the year, China has lowered its reserve
requirement ratio for banks, Australia cut interest rates by
25 bps to a historic low 1.75%, and Singapore weakened
its currency band. The most significant move was from
the Bank of Japan who decided to cut the base interest
rate to negative in February – a strong signal it is willing
to do whatever it takes to regain the recovery momentum
and to navigate the deflationary pressures which appear
to have started building up again.
Over the last five years, benchmark 10-year bond yields
in developed Asia Pacific have come in by an average
of 170 bps, prompting investors to look for alternative
sources of income. The low interest rate environment will
likely continue to support investor demand for property.
Executive summary• Asia Pacific on track to deliver some of the
highest total returns globally in 2016, supported
by continued monetary stimulus
• High street shops back in favour in Japan,
Australia
• Investment demand increasingly focusing on
alternatives, such as hotels
• Prime Sydney offices offer very strong short-
term rental growth prospects; longer-term
value also lies in secondary assets
Fig 1: Asia continues to lead on GDP growth
c.10%total returns forecast for Asia Pacific this year
$2.6bn increase in hotel investment in 2015 vs 2014
5-6% pa rental growth seen for Tokyo,
Sydney, Melbourne offices in 2016-8
“Over the last five years, benchmark
10-year bond yields in developed Asia Pacific
have come in by an average of 170 bps,
prompting investors to look for alternative
sources of income.”
Source: International Monetary Fund, April 2016.
Monetary stimulus supports economic outlook
Asia Pacific North America European Union
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Fig 2: Falling bond yields support real estate’s appeal to income-seeking investors
Source: Bloomberg.
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The low interest rate environment is likely to support
pricing over the near term, particularly in Japan and
Australia. However with yields in most markets already
at historic lows, total returns will increasingly be driven by
income growth.
Some unloved markets offer long-term value Across Asia Pacific, the office market leads in terms of
short-term rental growth prospects thanks to vacancy
rates falling below historic average levels. New demand
has been mostly focusing on high quality and large
scale buildings.
“Over the next three years,
we see returns averaging around 7% pa –
still comfortably ahead of the performance
expected in Europe or North America.”
Perhaps unsurprisingly, the segments which saw the
biggest reduction in vacancies in 2015 – Sydney, Melbourne
and Tokyo – are also the ones forecast to see the strongest
rental growth of 5-6% pa over the next three years.
In Tokyo, though, the relatively strong headline number
masks a less positive trend, with rental growth – while still
healthy over the short to medium-term – actually slowing.
This is due to a number of factors, including an expected
increase in supply, the already elevated current pricing
levels and the recent signs of weakness in the Tankan
business sentiment survey which has historically displayed
a strong correlation with the path of office rents in the
Japanese capital.
There are already some signs that Australia, having been
hurt by the commodity downturn, is turning a corner with
the creation of new jobs and rising retail sales. Together
with South Korea, Australia is experiencing some of the
strongest credit growth in Asia. The low interest rates are
encouraging greater activity from both businesses and
consumers, which bodes well for future growth prospects
and occupier demand.
There has also been some better news out of Japan,
whose economy grew at a much faster than expected
annualised rate of 1.9% in the first three months of 2016.
Despite this, Japan is unlikely to be out of the woods yet.
Monetary stimulus, administered by the BOJ since 2013,
has yet to flow through into corporate capital expenditure
and the yen has remained stubbornly strong. Economic
growth expectations have been consistently downgraded
over the past 12 months and Japan will likely require fiscal
stimulus to boost growth. If economic fundamentals
remain tepid, the current strong interest in Japanese real
estate will likely taper gradually as supply comes on-stream.
Singapore, Hong Kong and Korea will probably continue
to experience some short-term softness due to their
high exports exposure to global trade flows and
commodity prices.
“Together with South Korea, Australia
is experiencing some of the strongest
credit growth in Asia.”
Looking forward, we expect that domestic demand and
intra-regional economic activity will remain the key drivers
of the Asia’s economic performance, supported by the
central bank stimulus, relatively strong labour markets
and lower commodity prices.
Asia Pacific is on track to deliver some of the highest total
returns globally in 2016 (of around 10% on a pan-regional
basis), supported by continued monetary stimulus and
stronger economic expansion.
Over the next three years, we see returns averaging around
7% pa – still comfortably ahead of the performance
expected in Europe or North America. Skilled investors
will have the potential to deliver even better results by
focusing on areas with the strongest rental growth and
by carrying out active management initiatives (such as
refurbishments) to maximise the value and income of their
existing assets.
Asia real estate leads on total returns
Source: PMA.
Singapore Sydney
Osaka
Perth
Singapore Seoul
Brisbane
Melbourne
Hong Kong
Tokyo
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Fig 3: Office vacancy rates falling in most markets
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Tourism key for retail sectorProspects for Asia’s retail sector are supported by growing
consumer spending and tourism in countries like Australia,
Japan and Korea. Indeed, we expect that retail will overtake
offices in terms of total returns from 2018 and generally
see it as offering attractive value across the region.
One key trend is the renewed popularity of high streets
among occupiers and investors alike. This is particularly
true in tourist-driven markets (such as Ginza and Shibuya
districts of Tokyo) as well as in areas where more people
are moving to city centres. Sydney and Melbourne are
notable examples of the latter trend, with the population
dynamics supported by infrastructure improvements. As
well as making new acquisitions, investors can also benefit
from this trend through active management initiatives in
existing assets by adding extra retail space to office or
residential buildings.
“We expect that retail will overtake
offices in terms of total returns from 2018
and generally see it as offering attractive
value across the region.”
However, the short-term outlook for Hong Kong and
Singapore retail is less positive. As a consequence of
falling Chinese tourist arrivals and lower spending on
luxury goods due to China’s anti-corruption drive, Hong
Kong prime retail markets are undergoing a significant
correction. Retail rents in Causeway Bay (a premium retail
area on Hong Kong Island) have declined by as much as
30% over the last 12 months. Rents are also softening –
albeit at a more gradual pace – on Singapore’s Orchard
Road retail and entertainment hub as retailers continue to
struggle with sluggish sales growth and rising labour costs.
“In Tokyo, rental growth – while still
healthy over the short to medium term –
is actually slowing.”
The current market outlook highlights the many different
drivers and property cycle trajectories to be found
within Asia Pacific – and thus the region’s ability to offer
a diverse range of attractive opportunities at any given
point in time.
Over the medium term, we expect rental dynamics
within the region to shift, bringing some of the currently
weaker and less popular markets out of the shadows.
Rents in Perth and Brisbane will likely start to recover
from the steep recent falls as the cities adjust to the
changed dynamics in the mining sector and business
sentiment improves. Singapore, meanwhile, will rebound
after absorbing the current large wave of supply, while
Hong Kong is likely to benefit from any improvements in
Chinese domestic consumption.
“Rents in Perth and Brisbane will likely start to
recover from the steep recent falls as the cities
adjust to the changed dynamics in the mining
sector and business sentiment improves.”
Top 5 for rental growth
2016 – 2018 2019 – 2020
Tokyo office Perth office
Sydney office Singapore office
Melbourne office Brisbane office
Sydney secondary office Hong Kong retail
Melbourne secondary office Hong Kong industrial
The now-subdued valuations in these areas coupled with
the potential for a future rebound could present some
attractive opportunities for long-term investors, albeit on
a highly selective basis.
Investors need to look through the shorter term periods of
weakness and focus on where demand will be over the
longer term. So, for example, whilst there is substantial
supply in premium office space in Singapore at present,
we see longer term value in business parks away from the
traditional commercial centres.
Merado Daikai, Kobe, JapanThe outlook for Asia’s retail sector is supported by growing consumer spending in Japan, as well as Australia and Korea.
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Rising supply limits rental growth in logisticsLeasing conditions in the logistics sector remain broadly
favourable, underpinned by resilient domestic demand
and growth of e-commerce. Space that serves third party
logistic operators and online retailers is in particularly
strong demand.
Rental growth is still relatively modest as operators
continue to focus on cost savings and efficiency
improvements. We expect this to continue in the short-
term, especially as some areas will need to digest significant
new supply pipelines. Over the long run, however, we see
some attractive pockets of potential value in areas such
as Singapore industrials.
Overall, transaction activity has moderated in recent
months, but investment in Asian real estate is still running
well ahead of its historical average. Furthermore, we
expect activity to pick up again over the next 12 months,
particularly in Japan and Australia.
European investors in particular (including from the
UK) are showing an increased interest, attracted by
diversification benefits and the potential to generate a
strong income stream from high quality assets. Indeed,
11.2% of European investors expect to invest in Asia
Pacific this year, according to the INREV Investment
Intentions 2016 report – up from 8.3% a year ago.
Following the UK’s vote to leave the European Union, and
the expected period of market volatility in that regions
as a result, appetite for Asia may pick up even further
thanks to its relatively more attractive GDP growth and
prospective returns.
Investment market: appetite for alternatives
Alternative sectors are starting to command a growing
share of overall inflows. Investors are attracted by the
higher yields on offer in these less-established markets
compared to prime properties in the more traditional
commercial sectors. Against a backdrop of slightly softer
overall investment activity in 2015, hotel sector transactions
actually rose by $2.6bn on the year to reach $9.6bn1.
“European investors in particular (including
from the UK) are showing an increased
interest, attracted by diversification benefits
and the potential to generate a strong
income stream from high quality assets.”
Australian hotels, for example, look attractive, with the
potential to benefit from growing international and
domestic tourism – holiday visitor numbers to the country
rose 15.8% in the year to end-March 20162.
Good quality secondary assets are also becoming more
popular for similar reasons. Secondary offices in Sydney
and Melbourne are very much in the spotlight thanks to
more attractive valuations and relatively similar short-
term rental growth prospects compared to their central
business district (CBD) peers.
Asia’s relatively high economic growth and solid total
return outlook put it in a strong position to help pension
funds generate a positive cash flow as a part of a
diversified portfolio.
With yields in many prime markets at historic lows,
income growth is likely to become an increasingly dominant
theme in the coming years. This in turn puts the focus on
active management to maximise the rents, occupancy
and lease terms in existing assets and keep them in-tune
with evolving occupier needs.
For new acquisitions with a long-term horizon, there is
a growing potential to find attractive relative value by
focusing on assets which are still core but which are
located slightly off the traditional beaten track – be it
in alternative sectors (such as hotels) or in currently less
popular markets where a turnaround in performance is
expected (such as Brisbane and Perth offices, or Singapore).
Conclusion
Source: Real Capital Analytics.
Fig 4: Investment volumes remain above historic average
Tra
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Retail Office Industrial Hotel Apartment Average
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1 RCA (based on 2007-2015 quarterly data).2 Australian Bureau of Statistics.
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Yip Kai Research Analyst
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