EUROPEAN REAL ESTATE DEBT: WHERE NEXT?
The European lending landscape has been changing, with more varied sources of capital willing to finance the corporate real estate sector.
The global REIT market continued to benefit from the re-opening, reflation and re-calibration themes in the second quarter. In the United States, REITs outperformed the broader equity markets by approximately 200 bps. In Europe, REITS outperformed general equity markets by over 300 bps in the quarter. Geographic regions that made the most progress in vaccination implementation outperformed those regions that were slower to roll them out. As a result, U.S. and European REITs outperformed Asian REITs in the quarter. The quarter, however, was not without volatility as investor concerns around the COVID-19 Delta variant, triggered by new states of emergency in parts of Asia Pacific and Europe, weighed on investor sentiment about the timing of the re-opening.
June marked the fourth month in a row in the green for European real estate…but only barely. However, European real estate’s two-month streak of outperformance was broken as the sector lagged both regional equities and the global real estate index. Nevertheless, Europe did catch a re-opening bid as vaccine programs ramped up through the second quarter, which seemed to generally trickle down to incrementally positive commentary from management teams in first quarter earnings. European real estate posted a 0.4% total return (-2.7% USD) in June, lagging both the broader Stoxx 600 index (-110 bps) and the EPRA Global real estate index (-390 bps USD). Broad dollar strength weighed on Europe’s relative USD performance as the greenback gained 3.0% vs the euro, 2.7% against the pound sterling, and 3.1% vs the Swedish kroner.
2021 is likely to be a tale of two halves as vaccine efforts continue to ramp up through the summer, thus paving the way for a broader economic re-opening later this year. Current valuations reflect this divergence. UK real estate is trading around a 1% discount to NAV versus continental Europe which has widened slightly to a 9% discount, although the range remains very wide across individual sub-sectors. In terms of implied cap rates, the UK is at 4.7%, a 410 bps spread to 10-year gilts, and continental stocks trade at 4.5%, a 480 bps spread to 10-year bunds. These spreads remain attractive versus long run averages of 330 and 450 bps for the UK and Europe, respectively.
The Asian real estate equity market rallied 3.5% in the second quarter of the year, after a 6% return in the preceding quarter. Sentiment in the second quarter was dampened by the spread of the COVID-19 variant, in spite of the accelerating vaccinations. The risk-off sentiment was also reflected by the outperformance of the REITs against developers in the quarter. Australian REITs led the pack (+7.9%5 in USD terms), followed by J-REITs (+7.5%) and Singapore (-0.1%). Within the developers, Japan rose +0.1%, while Hong Kong and Singapore developers lost -0.5% and -1.5% respectively. The relatively muted performance in Singapore was partly attributable to the new movement restrictions measures put in place from May 16 to June 13 to curb a spike in COVID-19 community cases.
We are optimistic for 2021, premised on economic recovery aided by economic stimulus and the gradual easing of restrictive movements with successful vaccine development. The outbreak of COVID-19 has ushered in a period of unprecedented global monetary easing and fiscal stimulus as countries coped with the economic fallout. With Asia virus caseloads dwindling over the past few months, the focus is now on re-opening and the delivery of an effective vaccine. Sectors that witnessed a significant contraction in demand (such as hospitality and retail) will likely see strong recovery in the coming months. In the near-term, the following themes could be in focus: The COVID-19 and vaccine impact on society and economy; Economic stimulus; Bond yield spike on inflation expectations; Recovery in retail and hospitality; and finally, U.S.-China relations.
¹FTSE EPRA/NAREIT Developed Asia in USD Index. As of 31-Dec-2020.
Past performance is no guarantee of future results.
For Professional Investors only. All investments involve risk, including the possible loss of capital.
In the United Kingdom, this financial promotion is issued by PGIM Limited with registered office: Grand Buildings, 1-3 Strand, Trafalgar Square, London, WC2N 5HR. PGIM Limited is authorised and regulated by the Financial Conduct Authority (“FCA”) of the United Kingdom (Firm Reference Number 193418). In the European Economic Area (“EEA”), this financial promotion may be issued by PGIM Netherlands B.V. or PGIM Limited depending on the jurisdiction. PGIM Netherlands B.V., with registered office at Gustav Mahlerlaan 1212, 1081 LA, Amsterdam, The Netherlands, is authorised by the Autoriteit Financiële Markten (“AFM”) in the Netherlands (Registration number 15003620) and operates on the basis of a European passport. In certain EEA countries, this financial promotion is, where permitted, presented by PGIM Limited in reliance of provisions, exemptions or licenses available to PGIM Limited under temporary permission arrangements following the exit of the United Kingdom from the European Union. These materials are issued by PGIM Limited and/or PGIM Netherlands B.V. to persons in the UK who are professional clients as defined under the rules of the FCA and/or to persons in the EEA who are professional clients as defined in the relevant local implementation of Directive 2014/65/EU (MiFID II). PGIM Limited and/or PGIM Netherlands B.V. are indirect, wholly-owned subsidiaries of PGIM, Inc. (“PGIM” and the “Investment Manager”), the principal asset management business of Prudential Financial, Inc. (“PFI”), a company incorporated and with its principal place of business in the United States. PFI of the United States is not affiliated in any manner with Prudential plc, incorporated in the United Kingdom or with Prudential Assurance Company, a subsidiary of M&G plc, incorporated in the United Kingdom. PGIM, the PGIM logo and the Rock symbol are service marks of PFI and its related entities, registered in many jurisdictions worldwide. PGIM Fixed Income and PGIM Real Estate are trading names of PGIM an SEC registered investment adviser in the United States. Jennison and QMA are trading names of Jennison Associates LLC, and QMA LLC, respectively, both of which are SEC registered investment advisers and wholly owned subsidiaries of PGIM. Registration with the SEC does not imply a certain level or skill or training.References to specific securities and their issuers are for illustrative purposes only and are not intended and should not be interpreted as recommendations to purchase or sell such securities. The securities referenced may or may not be held in the portfolio at the time of publication and, if such securities are held, no representation is being made that such securities will continue to be held.
The views expressed herein are those of PGIM Real Estate’s investment professionals at the time the comments were made, may not be reflective of their current opinions, and are subject to change without notice. Neither the information contained herein nor any opinion expressed shall be construed to constitute investment advice or an offer to sell or a solicitation to buy any securities mentioned herein. Neither PFI, its affiliates, nor their licensed sales professionals render tax or legal advice. Clients should consult with their attorney, accountant, and/or tax professional for advice concerning their particular situation. Certain information in this commentary has been obtained from sources believed to be reliable as of the date presented; however, we cannot guarantee the accuracy of such information, assure its completeness, or warrant such information will not be changed. The information contained herein is current as of the date of issuance (or such earlier date as referenced herein) and is subject to change without notice. The manager has no obligation to update any or all such information; nor do we make any express or implied warranties or representations as to the completeness or accuracy.
Any projections or forecasts presented herein are subject to change without notice. Actual data will vary and may not be reflected here. Projections and forecasts are subject to high levels of uncertainty. Accordingly, any projections or forecasts should be viewed as merely representative of a broad range of possible outcomes. Projections or forecasts are estimated based on assumptions, subject to significant revision, and may change materially as economic and market conditions change.
As a result of the exit of the United Kingdom from the European Union, PGIM Limited is currently not permitted to liaise with Italian investors, including with respect to the distribution of marketing materials. PGIM Limited is in the process of filing an application with the Italian Securities and Exchange Commission (CONSOB) to obtain permissions to do so in the future.
© 2021 Prudential Financial, Inc. ('PFI') of the United States and its related entities. PGIM and the PGIM logo are service marks of PFI and its related entities, registered in many jurisdictions worldwide.