Loving London
Sizing up sovereign investment: Forecasts for sovereign wealth funds’ investments in real estate
Sovereign wealth funds have made headlines coming to the rescue of investment banks damaged by bad real estate bets in the sub-prime mortgage market. Now these same funds are targeting real estate directly. Just as they have propped up Merrill Lynch, Citi, UBS and others, there are hopes that the funds will do the same for the battered commercial real estate sector.
Cash-rich sovereign wealth funds have trillions stashed away from surplus revenues generated, in most cases, by oil sales. Even if only a small proportion of this wealth is directed to real estate, it could mean $80 billion to $120 billion annually, according to research from Eurohypo (see Sizing up sovereign investment).
The perception that there is now value in the sector is behind a number of recent deals. However, attractive valuations in such markets as the US and the UK are only part of the reason why sovereign wealth funds are increasing their allocation to real estate or even setting the stage to make their first investments. As an asset class, real estate offers sovereigns protection against inflation as well a diversification tool. Some market observers argue that real estate gives sovereigns access to so-called alpha-generating assets without entangling them in sensitive national security issues. Historically, sovereign funds sought to acquire stability through buying bonds, and more recently looked to the equity markets for alpha generation.
"They were not interested in property," says Philippe Tannenbaum, London-based director of research at Eurohypo. "It was not a fashionable target for them. Now that they are getting closer to the point when they will no longer have oil revenues and are looking for long-term cashflows, sovereign wealth funds are understanding that property is no longer perceived as a sector where you buy an asset and you sleep on it. It is an alpha generator, which can give very high returns if properly managed and sold at the appropriate time."
On a fundamental level, sovereign wealth funds’ attraction to real estate is also part of a wider trend among global investors towards considering real estate as part of their overall asset allocation.
"More generally, international investors have now got to grips with having a global real estate investment strategy," says Chris Bartram, chairman of London-based Orchard Street Capital. "If you are a big enough player to have a property allocation, it now makes sense to play that out on a global basis."
The sovereign funds are following a well-trodden path established by institutional investors active in global real estate such as AIG, ING and Prudential. Like the institutional players, some funds have been active in their local markets and are looking overseas for new opportunities. However, there are sovereign wealth funds such as Singapore’s Government Investment Corp, the Abu Dhabi Investment Authority, and the Kuwait Investment Authority that have been active in real estate for years. GIC Real Estate has been making investments since 1982 and KIA has a direct investment arm in the shape of London-based St Martins Property Corp, which it acquired in 1974.
However it is the newcomers that have the market excited. News that Norway’s Government Pension Fund will allocate up to 5% of its $350 billion of assets in real estate has enthused market participants (see Keen but cautious interest from Norway’s sovereign fund). And China Investment Corp, worth an estimated $200 billion, is said to have set its sights on the German property market. There have been reports that CIC, possibly through an investment subsidiary, is seeking to deploy $20 billion buying up commercial property in Germany.
The Australians are also gearing up for a foray into global real estate. Australia’s Future Fund, with A$59.6 billion ($57.2 billion) in assets, recently hired Pinnacle Property Group’s Barry Brakey to develop and manage its property investments. A spokesman at the Future Fund declined to comment on its ambitions.
The Kingdom of Saudi Arabia is about to announce its plans to create a wealth fund – which some participants in the market estimate will have assets of about $900 billion; others claim it might be seeded with $5.3 billion. This fund could well prove to be another deep pool of cash headed toward the real estate sector.
When it comes to real estate investing, sovereign funds have the reputation – rightly or wrongly – for acquiring trophy assets. Although there has been some of that going on – Qatar has invested in London’s The Shard and Qatari Diar bought the landmark Chelsea Barracks, also in London – distressed and value opportunities are more attractive.
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"Sovereign wealth funds are shying away from trophy assets. The theme is distressed assets"
Fadi Mousalli, Jones Lang LaSalle |
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"Sovereign wealth funds are shying away from trophy assets, or they will only buy a trophy if it makes sense from an economic point of view. The theme these days is distressed assets," says Fadi Moussalli, regional director, international capital group, for Jones Lang LaSalle in Dubai. "Even if funds are awash with cash and they need to deploy this cash in real estate investments overseas, this does not mean they will overpay for assets."
Moussalli argues that sovereign funds are conscious of the advantage they have as cash buyers. Being in the position to pay cash should put them in a position to buy properties for less than an investor dependent on bank finance.
"We’re not seeing sovereign funds going into markets that are overvalued," says Michael Cutteridge, director, capital markets at DTZ in London. "Basically, they’re looking at the globe and they’re looking for value."
Right now, the markets looking decent from a value perspective are the US, the UK and western Europe. Thanks to the credit crunch and the sub-prime crisis, commercial property values in these jurisdictions have come down sharply from their peaks and are attracting investors that had been seeking opportunities in emerging markets – particularly Asia.