In our regular update on real assets we assess real estate positioning in the late stages of the cycle, check interest in real assets in a period of Brexit-related uncertainty and illustrate the spreads achievable across private assets of varying credit quality.
3 minute read
Key themes: Real estate: Steady debt flow in Q1 amid Brexit cacophony, while investors assess late cycle positioning
Real Estate: Assessing opportunities and late cycle postitioning
At this late stage in the property cycle, European real estate investors are being relatively poorly compensated for taking on extra risk, so positioning defensively is the most appropriate course of action. While flows into riskier parts of the real assets universe may slow, prime assets are expected to remain in demand and less likely to experience significant repricing.
Despite moderate returns in Continental Europe (we expect prime European commercial real estate to return around 3.4 per cent annualised 2019-2023 versus 14.2 per cent 20142018), the risks around supply and leverage are significantly weaker than in the last cycle. However, creating income growth is still possible through selective active management and repositioning.
As some direct investments are expensive, real estate debt and real estate investment trusts (REITs) are becoming more compelling. For instance, investors in real estate debt can expect to receive income with little capital value risk – provided capital is sensibly lent.
Meanwhile, in the UK, as parliamentary discussions on Brexit have stepped up, some foreign parties have become more cautious. There have been comparatively few transactions on “trophy” properties, as foreign buyers consider the potential outcomes of current political process. Long income – where indexed leases are set at the right rent to the right tenant – continues to be a safe haven on a risk-adjusted basis.
On the other hand, there has been an active flow of smaller property transactions that require finance across the full credit spectrum. This includes retail, offices, hotels and student accommodation. Owners have been seeking to secure funding in anticipation of increased volatility, which has benefitted long-term debt investors as foreign banks have been less active. As a result, while real estate transactions have declined in Q1 (see chart), there has been a steady flow of new real estate debt investment opportunities. And although the near-term effects of a hard Brexit on deal flow is uncertain, we expect to see decent opportunities, particularly for UK lenders, throughout the rest of the year.
Infrastructure Debt: refinancings continue to drive volume
Infrastructure Debt: Refinancing activity continues to drive volume as investors squeeze the refinancing lemon to the last pip
As in the UK property market, there have been few large infrastructure acquisitions in the first quarter, with more activity in continental Europe. However, refinancing activity and smaller acquisitions has driven a steady volume of new debt transactions.
After a hectic fourth quarter, largely spent closing transactions, sponsors have approached 2019 with more benign financing conditions than were expected 12-months ago and may be able to further optimise their portfolios. UK PFI refinancings have been delayed by the need to obtain government approval but are gaining momentum. All these factors have contributed to a robust pipeline in Q1. However, with the new infrastructure programme (‘greenfield’) remaining slow, we believe this momentum could be difficult to maintain for another year.
Year-on-year % change
Indicative spreads p.a.*