The growing number of global institutions and investors entering the Asian real estate market has changed investment strategies and trends in the region. However the rewards it can offer aren’t without its own special set of risks
By Tsering Namgyal
International investors are increasingly flowing into Asia as they seek higher yield, and the real estate sector has been a beneficiary of this trend.
Investors in unlisted Asian real estate have raised US$4 billion already this year, according to CBRE Asia Pacific, on top of the US$14 billion raised in 2014. The momentum to invest in Asia is expected to remain strong as in the second quarter of this year, China overtook Japan as the largest real estate market in terms of transaction volume. However, the recent volatility in the Chinese markets has added some uncertainty to the larger investment landscape, analysts say.
Real estate investing 101
For the uninitiated, there are two main ways investors invest in real estate. One is by gaining exposure to them in the listed market, known as REITS (Real Estate Investment Trusts), and the other is through investing in non-listed real estate vehicles.
The latter, which usually takes the form of real estate funds, adopt four main strategies: core, core plus, value-added, and opportunistic. Core strategies are generally lower risk and lower return while value-added and opportunistic are seen as higher risk and require high-degree of enhancement.
Investments into the funds are generally done on a 10-year horizon and investors include some of the world’s largest institutional investors, from pension funds to sovereign wealth funds as well as high net worth individuals who are increasingly moving into Asia. Generally, core funds generate single-digit returns of less than 10 percent while opportunistic funds can provide investors with up to 15 to 25 percent return, analysts say.
So far, most funds have been investing into the two most popular and mature markets of Asia – Australia and Japan, though that is gradually changing.
“In Asia Pacific, Japan, China and Australia are the largest investment markets with South Korea, Singapore, Hong Kong and India also of interest to cross border investors,” says Megan Walters, head of research, Asia Pacific Capital Markets at JLL.
A move into core strategies
While opportunistic funds have been dominant over the past few years, especially following the global financial crisis, investors are now moving into core investment strategies for a variety of reasons. “Traditionally, opportunistic funds have been popular in Asia. However, we are starting to see increasing formation and popularity of core open-ended funds – a sign of increasing market maturity and transparency in Asia Pacific,” says JLL’s Walters. CBRE’s Asia head of research Henry Chin also says that over the past 18-month period he has observed a marked trend towards lower-risk and return strategies. “There were more and more core and value-added funds being raised,” says Chin. “[It is] a huge change we have observed since the global financial crisis – there has been an increasing diversification into core.” According to CBRE Asia Pacific Investor Survey, which covers nearly 300 investors across this region, the percentage of investors who want to invest in core has increased from 29 percent in 2014 to 43 percent in 2015.
Focus on Asia
The roughly US$4 billion in funds raised so far this year include funds by companies such as Pramerica, Baring Private Equity Asia, JP Morgan Asset Management, CLSA Capital Partners, amongst others. Besides the big global names, another new trend is a growing number of Asia-focused specialist funds that are adopting single-sector and single-country strategies. “They are not going to raise a billion dollars, but they will raise $300 to $400 million and will continue to be very successful,” says CBRE’s Chin.
For instance, Singapore-based SC Capital said in June that it has raised US$400 millon Asia-focused fund. This is the first time the private equity firm has raised a core plus fund. Often Asia-based firms use their expertise in Asia, connections and superior local knowl-edge as their marketing tool.
The flip side of this move into core strategies by investors, however, is a shortage of what analysts believe is a supply in core assets. This is because most investors have been piling their investments into the two favorite markets of Japan and Australia, where core assets have tended to dominate the market.
“The core space is looking a bit crowded,” says Terence Tang, manag-ing director for Colliers International in Singapore.
Meanwhile, investors are also getting slightly more aggressive in terms of their risk appetite for real estate in Asia, not least because of rising interest rates and a slight improvement in rental in residential markets. This means a newfound interest, especially amongst some US-based investors that are also looking at riskier strategies.
“US investors are finally back in the game for Asia,” says Tang, who is currently working on several opportunistic deals for US-based clients.
Since “the yields are being compressed” in more mature markets, some investors, such as hedge funds, real estate funds and high net worth individuals, are beginning to look at opportunities in emerging Asian markets, which include Vietnam, Myan-mar and India, Tang says.
Peter Churchouse, who runs real estate fund management company Portwood Capital, also believes that some investors in Hong Kong are willing to take on more risk now in certain sectors especially with the fall in vacancy rates in the office market and the uptick in rentals in the upper end of the residential market.
However, he remains slightly skeptical about the level of return promised by many real estate funds in Asia, particularly given that low interest rates have driven prices up and rental yields lower in many markets. Real estate investment in Asian countries brings a range of risks that don’t exist to any great extent in many developed markets.
While emerging Asian markets might present many opportunities, Churchouse believes it would be ill-advised not to consider these risks. He points out the challenges in land acquisition and lack of clarity in terms of ownership rights as particularly worth pondering before taking the plunge into these markets. Tax regimes are often very different and can be less than transparent.
He asks if investors are rather willing to be content with a seven to eight percent stable return over a 10-year period investing in core strate-gies, or choose to invest in opportunistic deals that might offer a double-digit return but might involve greater risks such as regulatory, tax and political, amongst others.
JLL’s Walter agrees and points out that other areas that risk can come from include development, leasing and financing. “By definition opportunistic funds carry more risk as a trade off for greater return as compared to core funds.”
Indeed, the lack of transparency in Asia has always been a concern for investors, says Alan Dalgleish, the CEO of ANREV (The Association for Inves-tors in Non-listed Real Estate Vehicles), a non-profit organization aimed at promoting the interests of real estate investors in Asia.
ANREV’s mandate is to promote investments into unlisted real estate vehicles with the top priority being in improving transparency and facilitating better governance.
The organization, a sister of the Netherlands-based INREV (The European Association for Investors in Non-listed Real Estate Vehicles), has nearly 300 members, a majority of which are global investors, pension funds as well as other service providers such as real estate agents.
ANREV tracks about US$90 billion in assets and develops benchmark indices for investors. This in turn help investors create better reporting standards so as to facilitate better communication between investors and managers.
According to Dalgleish, ANREV’s suite of indices allow investors to measure their performance against bench-marks, something investors could not previously do.
He believes that not all investors are familiar with the Asian real estate landscape as it pertains to how they could invest across the Asian region and in what ways they could increase their return while minimizing risk.
China takes over as top market
Indeed, better knowledge of the markets and better regulation would pave way for more mature markets especially in countries such as China, which is moving from owner-occupied towards a landlord and tenant system, according to JLL.
That combined with the currency effects has pushed China to the top of the league in terms of real estate trans-action, overtaking Japan in the second quarter this year.
In specific quarters, China recorded greater transaction volumes bigger than that of Japan. “Currency has an effect – the yen depreciated against the USD whereas at the half year mark the Yuan was relatively stable,” says Walters. Analysts, however, believe that the recent volatility in the China markets, including the Asian currency markets, might affect investor sentiment in the real estate industry going forward.
Tsering Namgyal has been a writer specializing in business and finance for roughly two decades. A graduate of the University of Iowa and University of Minnesota, his articles have appeared in Asia Asset Management Review, Fund Strategy, IPE Real Estate, the South China Morning Post, amongst others.