Embed Size (px)
Citation preview
1
Investment case:Continental Europe
Strong economic recoveryThe eurozone has experienced a steady economic
recovery as political risks have receded. Having suffered
greatly as a result of the financial crisis, the region has
recovered strongly to see highs in output, demand,
employment and inflation, supported by the European
Central Bank’s €1.1 trillion quantitative easing (QE)
stimulus programme.
2018 gross domestic product (GDP) growth is forecast to
reach 1.8%, with the solid pace of expansion continuing
over the medium term.2
Unemployment rates are falling across the region,
including in peripheral countries. Loose monetary
policy and low debt costs have seen asset values rise,
with investors now taking on some additional but
measured risk.
Attractive value in real estateThe economic recovery in continental Europe follows
the strength already seen in the UK and the United States.
The same holds true for the real estate market, where
Europe in a global context is at an earlier stage of the cycle
and has been catching up in delivering attractive returns.
According to our models, individual markets in Europe
still have the best long-term value compared to other
developed real estate markets based on current pricing.
European property also looks very attractive compared
to bonds, which supports its appeal to income-seeking
investors such as pension funds. Indeed, all of the major
markets in continental Europe are currently offering
attractive yield premiums versus government bonds.
A healthy spread protects property from significant
upwards pressure on yields.
The value of an investment and the income from it can fall as well as rise and you may not get back the amount you
originally invested.
Continental Europe's real estate market offers investors the scope to tap into a wide opportunity set, capitalise on the
region’s economic recovery and reap the benefits of diversification, while keeping risk down to levels consistent with
core, income-driven investments.
The case for investing in continental Europe is backed by:
• Sound and improving fundamentals – economic growth expected to reach 1.8% over 2018 in the eurozone,
following healthy expansion in the previous two years
• Attractive pricing – Europe currently offers some of the best value among the world’s developed real estate
markets, according to M&G Real Estate’s valuation models
• Strong return prospects – total returns forecast to average 5.2% per annum over three years
• High transparency level – all major European markets are ranked ‘highly transparent’ or ‘transparent’1
• Diversification benefits – due to low correlations with other regions
1 JLL Global Real Estate Transparency Index 2016.2 Consensus Forecasts, September 2017.
Source: Consensus Economics, September 2017. Countries sorted by growth projection for 2017.
Fig 1: Strong economic recovery seen across Europe
Re
al G
DP
gro
wth
(%
pe
r a
nn
um
)
Euro zo
ne
Greece
Switzerla
ndIta
ly
France UK
Belgium
Norway
Germany
Denmark
Austria
Finland
Portugal
Netherla
nds
Spain
Sweden
2016 2017 2018
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
Source: M&G Real Estate, Bloomberg, CBRE Q3 2017.
Min/Max Spread Q3 2017
-500
-400
-300
-200
-100
0
100
200
300
400
500
600
700
Fig 2: Yield spread versus bonds: 2007-17
All
Pro
pe
rty
sp
rea
d v
ers
us
10
-ye
ar
go
vt b
on
d s
(2
00
7-1
7)
Netherlands
Ireland UK
Switzerla
nd
Denmark
Germany
SpainFrance
Portugal
Italy
For Investment Professionals Only
2
Solid return prospects
The current value that can be found in Europe is all the
more attractive when you consider the region’s prospects
for strong returns, backed by growing economies and
falling unemployment.
Over the next three years, we forecast that Europe ex-UK
All Property total return will average 5.2% per annum,
with industrials performing the strongest.
In part, this will come through some yield compression,
such as in the Nordics, Benelux and Southern Europe,
as Europe attracts investment from risk-averse pension
funds and insurance companies who are looking to
reallocate capital from bonds to other income-generating
asset classes. Already a result of this, property yields
in core markets such as Germany and France have
compressed to new record low levels.
Low yields in CBDs are likely to persuade investors to look
further afield to find value. Edge of CBD submarkets, for
example, continue to offer more attractive pricing, and
also benefit from limited supply and strong prospects
for rental growth. With transport links improving across
European cities, as governments invest more into both
digital and physical infrastructure, submarkets deemed
to be core are expanding. Given the discounts on offer,
non-CBD submarkets with strong occupier fundamentals
and greater urban connectivity can provide opportunities
to secure higher returns.
Going forward an increasing part of overall returns
in Europe will come from rental growth. This has
already come through in high street retail shops on
supply-constrained prime pitches particularly in French,
German and Benelux markets. As labour markets
have improved, rental growth has spread to offices
and now industrials. Logistics rents are showing the
strongest growth, driven by rising online sales, stronger
consumer and manufacturing confidence and digital
and physical infrastructure improvements on a pan-
European level.
We see All Property prime rental growth rising to 2.5%
across Europe in 2018. This creates the opportunity for
investors to tap into a strong income stream over the
coming years.
Source: M&G Real Estate, Q3 17, JLL, PPR, Transwestern.
Fig 4: European logistics rents catching up10
6
8
4
0
2
-4
-2
-6
-1092 94 96 98 00 02 04 06 08 10 12 14 16
-8Prim
e In
dust
rial R
enta
l Gro
wth
(%pa
)
UK US Europe
E-commerce driving UK / US
rents
E-commerce driving dUK / US
rents
Liquid and transparent market
Transparency, whether in terms of investment
performance, market fundamentals or regulation and
process, is a vital measure of investability for anyone
looking for core returns outside of their domestic market.
This is likely to be a particularly important consideration
for investors who are used to a highly transparent
domestic market, such as the UK, the US or Australia.
Continental Europe scores strongly in this respect,
with all of major markets ranked 'highly transparent'
or 'transparent' in the JLL Global Real Estate
Transparency Index.
The European property market is also highly liquid.
Transaction volumes reached €191 billion in 2016 –
higher than the levels seen in 2007. With €210 billion
transacted in the four quarters to Q3 2017, demand from
investors for European real estate is clear.
A growing proportion of investment comes from outside
of the region, underscoring that global real estate
investors are increasingly identifying the attractions of
Europe and are more comfortable about deploying their
money there.
Source: JLL, M&G Real Estate, December 2017.
Band 5-year average total return premium relative to CBD (bps)
A Gennevilliers 150 to 249
B Malakoff 250 to 399
C Nanterre, Montrouge,
Suresnes, La Défense
Bagneux
400 to 499
D Saint-Ouen, Villejuif 500 to 599
E Saint-Denis 600 to 750
C
AE
DC
C
C CD
B
Fig. 3: Paris submarket returns relative to CBD
3
Source: Bloomberg, CBRE Q3 2017.
Source: M&G Real Estate. Analysis based on IPD All Property total returns 2007-16 in local currency.
Source: MSCI Local currency, M&G Real Estate. Market correlations 2005-16.
Fig 5: €210bn transacted over the four quarters to Q3 2017
Tra
nsa
ctio
n V
olu
me
s (€
bn
)
France Germany NordicsPeripherals CEEBelgium Other
0
20
40
60
80
100
120
140
160
180
200
220
Q1
20
07
Q3
20
07
Q1
20
08
Q3
20
08
Q1
20
09
Q3
20
09
Q1
20
10
Q3
20
10
Q1
20
11
Q3
20
11
Q1
20
12
Q3
20
12
Q1
20
13
Q3
20
13
Q1
20
14
Q3
20
14
Q1
20
15
Q3
20
15
Q1
20
16
Q3
20
16
Q1
20
17
Q3
20
17
Po
rtfo
lio
allo
cati
on
& S
ha
rpe
ra
tio
%
Po
rtfo
lio
Re
turn
(%
pa
)
UK
100% 90% 80% 70% 60% 50%
UK weightings as % of total portfolio
40% 30% 20% 10% 0%
Europe ex-UK Sharpe return Portfolio return (RHS)
Note: The Sharpe ratio is the average return earned in excess of the risk-free rate per
unit of volatility or total risk. Proxy for the risk-free rate is averaged over the past 10
years’ yield on 10 year UK bond.
Fig 7: Investing in Europe boosts returns vs UK-only portfolio
0
10
20
30
40
50
60
70
80
90
100
0
1
2
3
4
5
6
7
8
9
Diversification benefits
For foreign investors, Europe’s attractions are boosted
by diversification benefits. According to modern
portfolio theory (MPT), which forms the backbone
to asset allocation across most types of investment,
investors can maximise the expected risk-adjusted
return by diversifying across a basket of assets.
By allocating capital beyond the domestic borders, an
investor can exploit differentials between the economic
and market cycles and consequently lower the overall
level of risk to which the portfolio is exposed.
Key ingredients for successful diversification are
negative or low positive correlations between a potential
new investment and the rest of the portfolio, as well as
the scope for that investment to improve the overall
risk-adjusted return. The majority of European real
estate sectors have correlations with the UK market that
are below the 70% “strong relationship” level.
Our portfolio optimisation analysis shows that adding
Europe to a domestic portfolio leads to higher risk-
adjusted returns (measured by the Sharpe ratio). Taking
the UK as an example, investors can achieve higher
returns – both total and risk-adjusted – by including just
10% of continental Europe in an otherwise domestic
portfolio. Risk-adjusted returns increase steadily as the
allocation to Europe is increased towards the 60% mark.
More broadly, and regardless of the domicile of the
investor, the best risk-adjusted returns can be achieved
with a global portfolio diversified across geographies
and sectors.
Conclusion
Backed by a recovering economy and central bank
stimulus, continental Europe today, offers investors
strong returns prospects in a global real estate context
and value can be uncovered in parts of the market.
As the cycle in Europe catches up with the US and UK,
the potential for rental growth across the major sectors
further boost the appeal for income-seeking investors
such as pension funds. Europe’s transparency and
liquidity credentials make it well-suited for core investors.
For non-domestic investors, Europe’s attractions are
accentuated by the diversification benefits. By adding
continental Europe to a UK (or US, or Japanese, or any
other domestic) portfolio, they can expect to improve
risk-adjusted returns.
The historically high transaction volumes are testament
to investors’ confidence in the region – and to the
strength of the opportunity.
Fig 6: Low correlation between UK and Europe
-5
5
15
25
35
45
55
65
75
85
95
105
Co
rre
lati
on
s 2
00
5 -
16
(%
)
Ge
rma
ny
Fin
lan
d
Ne
the
rla
nd
s
Be
lgiu
m
Ita
ly
Po
lan
d
De
nm
ark
Fra
nce
Sp
ain
Sw
ed
en
UK
4
Vanessa Muscarà Associate Director- Property Research
+44 (0) 20 7548 6714
Alex Lund Associate: Property Research
+44 (0) 20 7548 6555
Richard Gwilliam Head of Property Research
+44 (0) 20 7548 6863
www.mandgrealestate.com
Lucy Williams Director, Institutional Business UK and Europe, Real Estate
+44 (0) 20 7548 6585
Christopher Andrews, CFA Head of Client Relationships and Marketing, Real Estate
+65 6436 5331
Stefan Cornelissen Director, Institutional Business – Benelux, Nordics and Switzerland
+31 (0) 20 799 7680
For more information
For Investment Professionals only. This document is for investment professionals only and should not be passed to anyone else as further distribution might be restricted or illegal in certain jurisdictions. The distribution of this document does not constitute an offer or solicitation. Past performance is not a guide to future performance. The value of investments can fall as well as rise. There is no guarantee that these investment strategies will work under all market conditions or are suitable for all investors and you should ensure you understand the risk profile of the products or services you plan to purchase. This document is issued by M&G Investment Management Limited (except if noted otherwise below). The services and products provided by M&G Investment Management Limited are available only to investors who come within the category of the Professional Client as defined in the Financial Conduct Authority’s Handbook. They are not available to individual investors, who should not rely on this communication. Information given in this document has been obtained from, or based upon, sources believed by us to be reliable and accurate although M&G does not accept liability for the accuracy of the contents. M&G does not offer investment advice or make recommendations regarding investments. Opinions are subject to change without notice.
In Singapore, this document is issued by M&G Real Estate Asia Pte Ltd. This document may not be circulated or distributed, whether directly or indirectly, to persons in Singapore other than (i) an institutional investor pursuant to Section 304 of the Securities and Futures Act, Chapter 289 of Singapore (the “SFA”) or (ii) otherwise pursuant to, and in accordance with the conditions of, any other applicable provision of the SFA.
In Australia, M&G Investment Management Limited does not hold an Australian financial services licence and is exempt from the requirement to hold one for the financial services it provides. M&G Investment Management Limited is regulated by the Financial Conduct Authority under the laws of the UK which differ from Australian laws.
M&G Investments and M&G Real Estate are business names of M&G Investment Management Limited and are used by other companies within the Prudential Group. M&G Investment Management Limited is registered in England and Wales under numbers 936683 with its registered office at Laurence Pountney Hill, London EC4R 0HH. M&G Investment Management Limited is authorised and regulated by the Financial Conduct Authority. M&G Real Estate Limited is registered in England and Wales under number 3852763 with its registered office at Laurence Pountney Hill, London EC4R 0HH. M&G Real Estate Limited forms part of the M&G Group of companies. M&G Investment Management Limited and M&G Real Estate Limited are indirect subsidiaries of Prudential plc of the United Kingdom. Prudential plc and its affiliated companies constitute one of the world’s leading financial services groups and is not affiliated in any manner with Prudential Financial, Inc, a company whose principal place of business is in the United States of America. JAN 18 / W253813
