The investment case for holding a portfolio of international real estate remains compelling. The diversification benefits alone make the case as countries grow and evolve in different ways and at different rates.
Investable real estate stock
Dr. Peter Hayes
Strategic Allocation Recommendations
Core Strategies - Equity
Given our assessment of current market conditions and the opportunities that are most attractive across different regions, we make the following broad equity investment allocation recommendations assuming a stabilized global portfolio of core, income-generating assets (also see exhibit 1):
• Shift in emphasis from defensiveness to recovery and growth
The worst of the crisis has passed, policy support remains extensive, capital is flowing into real estate and pricing looks broadly fair value in aggregate. Income growth is set to recover as occupier markets rebound in line with an improving economic outlook and investors should look to capitalize on improving momentum.
• Remain overweight in logistics, growing exposure to cold storage
Logistics remains an overweight in the near-term to capture value growth on the back of ongoing occupier demand, despite risks of a supply response further out. There is a lot of capital targeting the sector, so specialist entry points are needed to make it work, either via a development play with a long lease in place or by targeting a specialist sub-sector with an operational angle for additional value creation, notably in cold storage.
• Reduce apartment weighting to neutral
We still like apartments and their stable outlook, but recommend shifting exposure from overweight in 2020 – reflecting the value of secure income during the uncertainty of the pandemic – to neutral as returns relative to other improving sectors are less advantageous. Emphasis shifts toward urban markets in major US cities and London for example, that suffered in 2020 but are set to rebound, and to markets in Asia Pacific where institutional participation is rising to meet growing rental demand on the back of declining affordability.
Exhibit 1: Strategic Global Allocations – Core Equity
Strategic Global Allocations Table
Strategic MINUS NEUTRAL WEIGHT: OVERWEIGHT (+) / Underweight (-)
office
retail
APARTMENTs
HOTEL
U.S.
DEV.AP
EM.AP
EUR.
LOGISTICS
Netural
weight
STRATEGIC
CALL
TARGET
weight
TRENDS VS.
2020
Global Head of Investment Research, PGIM Real Estate
Across the regions, there are variety of different investment opportunities to consider, as summarized in the foregoing map. The following framework seeks to translate them into strategic allocation recommendations and assess their impact against a neutral global portfolio.
SECTOR
REGION
OFFICE
RETAIL
LOGISTICS
APARTMENT
ALTERNATIVES
Strategic Allocation
Recommendations
Across the regions, there are variety of different investment opportunities to consider, as summarized in the foregoing map. The following framework seeks to translate them into strategic allocation recommendations and assess their impact against a neutral global portfolio.
We estimate that at the end of 2020 the global value of investable real estate stock was $31.1 trillion.
We expect that during the next 20 years, that total will grow by an average of 5.2% a year and be worth more than $83 trillion.
REGIONS IN FOCUS
01
01
01
01
01
01
01
Distress in financial and real estate investment markets has been avoided and firmer growth is expected in the second half of 2021 and beyond
Divergent performance across global real estate markets means that an almost full cycle’s worth of opportunities is in play
For core, stabilized assets, an anticipated recovery in employment and ongoing low-supply environment provide support for occupancy and rents
For higher risk equity and debt strategies, there is potential to generate revenue and grow values as occupier markets recover
Evidence from past cycles and ongoing demand for real estate point toward potential overshooting, providing a source of growth opportunities in the short term
A broad range of investment opportunities include capitalizing on accelerated changes in how real estate is used, investing in assets that require repositioning, and finding value in parts of the market that have undergone a long-term correction
It goes without saying that there are always winners and losers in downturns and periods of market weakness. The difference this time around lies in how early the pattern has been established: normally, most parts of the market go through an initial period of uncertainty driven by common factors such as weaker demand, rising risk premiums, and oversupply. This time, the extent and speed of policy support — together with the nature of the pandemic that brutally curtailed demand for certain assets and amplified existing trends such as the rise of online retail — immediately and transparently boosted such sectors as logistics and left others, such as retail and hotels, struggling.
Unusually, there is a full range of cyclical opportunities in play all at the same time, with some sectors and markets delivering strong growth and attracting capital, and others facing severe occupier stress.
Divergence in sector performance is unprecedented
IMPLICATION
Unlike in past crises, there are no major pre-existing structural economic or financial issues to fix that might have otherwise required a lengthy adjustment period. In major developed economies, the opposite is the case. Job retention schemes appear to have been successful in limiting much unnecessary economic damage, and consumers have built up significant savings. As restrictions ease, the ingredients are in place for a rapid recovery. Importantly, inflation expectations remain contained, meaning that low interest rates can stay in place.
Rapid rates of growth, even though from a low base, are positive for opportunities because sentiment can improve quickly and businesses can move into expansion mode, thereby raising demand for real estate space.
Rapid rebound in activity brings opportunity
IMPLICATION
The initial recovery in economic activity in the second half of 2020 was clearly V-shaped, which has given way to a choppier pattern as restrictions to contain COVID-19 outbreaks are lifted and then re-imposed regularly in many major economies. With vaccine deployment gaining pace in some parts of the world, it will start to reach the point of having a material, widespread impact on activity during the second half of the year. And though that may not herald an immediate return to pre-pandemic normality, it promises to be sufficient to lead to the beginning of a widespread easing of restrictions, which will provide a significant boost for demand.
As restrictions ease in the second half of 2021, allowing workplaces and service-oriented industries to more fully re-open, occupier sentiment is expected to return quickly supporting a rebound in real estate space demand.
2021 will be a year of 2 halves
IMPLICATION
Compared with past downturns, policy commitment has been significant and has given real estate markets a major boost since the COVID-19 outbreak. At a society level, the emphasis has been on overcoming the pandemic and ensuring that otherwise viable businesses are able to continue operating. In real estate markets, job retention schemes and financial support packages targeting struggling industries have translated into income receipts that are holding up better than would normally have been implied by the severity of the recession. Central banks, too, have played an important role by providing major liquidity injections and committing to keeping policy interest rates low, in turn limiting financial distress and, in effect, providing support for asset values in real estate and beyond. And even though the worst of the crisis has passed, policy makers on the whole remain committed to providing extensive support until some sort of future normality is established.
Extensive policy support is set to remain in place for some time, boosting real estate values by increasing the predictability of cash flows and, by keeping low interest rates in place, reducing required returns.
Policy Commitment remains significant
IMPLICATION
Undoubtedly, conditions for real estate occupiers and investors remain challenging, yet the worst moment of the crisis was in early- to mid-2020, when the widest-possible range of outcomes was on the table, driven by concern that financial distress could affect credit flows and mass business failures could severely reduce property-level incomes. Since then, aided by policy commitment to support households, businesses and the financial system, large parts of the global economy and real estate markets have adapted to the challenges of operating during the pandemic, and activity is on an upward trend.
Some real estate distress cannot be ruled out, but as time goes on, such distress is less and less likely to occur on a widespread basis. Sectors and markets that haven’t yet recorded a correction are now unlikely to.
IMPLICATION
As the vaccine roll-out takes effect, the U.S. economy is set to benefit from several tailwinds through the second half of the year, including the prospect of a full re-opening, a boost to spending from accumulated savings and further fiscal stimulus.
Real estate tenant demand has turned a corner, supported by improving economic conditions and a strengthening labor market
The Federal Reserve remain committed to supportive monetary policy and the prospect of low interest rates remaining in place points towards further yield compression.
With parts of the retail and office markets facing structural headwinds, investors are increasingly turning to niche sectors as a source of resilient income-driven performance.
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Title
PGIM Real Estate
United States
Key factors supporting the outlook and opportunities:
Name
THE WORST OF THE CRISIS HAS PASSED
Favorable momentum prior to the COVID-19 global pandemic has been positively affected by behavioral change — related notably to a rise in online retailing, supply chain expansion and increased demand for cold storage.
Favorable momentum prior to the pandemic has remained relatively unchanged — for example, by reflecting structural shifts in living-sector requirements and rising investor interest in higher-returning niche property types.
Short-term disruption caused by the pandemic has prompted a correction in values that offers an attractive entry point, typically with some repositioning required — for example, in urban apartments, offices and hotels.
Retail headwinds have strengthened because of the pandemic, but a correction in values implies opportunities from a low base in segments of the market in which occupier demand is holding up better.
2
3
4
5
6
7
Global outlook
2021
A Crisis Brings Opportunity
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EXPLORE FINDINGS
STRATEGIC ALLOCATION RECOMMENDATIONS
PGIM Real Estate’s proprietary estimate of the size of high-quality, institutional-grade
investable real estate stock around the world.
A BIRD’S EYE VIEW OF
REAL ESTATE MARKETS:
2021
Asia Pacific
Grade A Offices
Hotels
Logistics and Cold Storage
China Deleveraging
Residential Sector
Europe
Logistics and Cold Storage
Distressed Retail
Modern Living Space
Grade A Offices
Americas
Grade A Offices
Urban Apartments
Last Mile Retail
Niche Sectors
Accelerated change
Ongoing Tailwinds
Short-term repositioning
Long-term Correction
Investable real estate stock
INVESTABLE
REAL ESTATE STOCK
The total value of the high-quality, institutional-grade real estate universe
Invested Real estate stock
We also find that today only 36% of that stock – roughly $11.2 trillion – is actually traded. Given both the ongoing emergence of real estate as an asset class and the outlook for economic prosperity and financial markets, we estimate that by 2040, the size of invested stock will be worth more than $40 trillion.
$31.1 trillion
2020
$11.2 trillion
2020
$83
trillion
2040
$40
trillion
2040
$85.1
trillion
2040
INVESTED
REAL ESTATE STOCK
The portion of the investable real estate universe held specifically for investment purposes
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Invested and Investable Stock by Region
(US $ Trillions)
2020
2030
2040
The value of a country's real estate stock does not translate directly into the size of its real estate investment market.
It is important to recognize that countries with a large real estate stock do not necessarily have large real estate investment markets.
Differences between invested and investable stock across major real estate regions over the next 20 years
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Europe
United States
& Canada
Asia
Pacific
Latin
America
GCC
Europe
United States
& Canada
Asia
Pacific
Latin
America
GCC
Europe
United States
& Canada
Asia
Pacific
Latin
America
GCC
Invested Stock
Investable Stock
2020
2030
2040
The investment case for holding a portfolio of international real estate remains compelling.
The diversification benefits alone make the case as countries grow and evolve in different ways and
at different rates.
Dr. Peter Hayes
The investment case for holding a portfolio of international real estate remains compelling. The diversification benefits alone make the case as countries grow and evolve in different ways and at different rates.
Global Head of Investment Research, PGIM Real Estate
Dr. Peter Hayes
Note: Any projections or forecasts presented herein are subject to change without notice. Actual data will vary.
Sources: MSCI/IPD, Oxford Economics, PGIM Real Estate. As of October 2021.