Min Chow Sai is the Singapore based Asia Pac Head of Research for Aberdeen Standard Investments. He spoke with The Yield this week to discuss what the recovery from Covid-19 could look like.
What has COVID’s impact been on the market?
The COVID-19 crisis has mostly accelerated some of the trends that we were already seeing prior to the pandemic: 1) adoption of flexible work arrangements, 2) migration to online shopping from offline, and 3) de-globalisation/supply chain shifts. Specifically, in the area of accelerating e-commerce penetration, the pandemic appears to have helped in breaking through certain barriers and these are unlikely to be reversed even after the health crisis is over. Case in point is the report that PayPal Australia saw a surge in new users during April and this included a 65% increase in Australians aged 50 and above. Even though the pace of increase may slow as we exit the lockdowns, the long-term trend seems clear especially if we were to consider more people are likely to be spending more screen time at home going forward.
How have investor priorities changed?
In the near term, I think investors are likely to err on the side of caution and focus more on managing their existing portfolios, especially in areas such as tenant engagement and rent collection. The crisis has highlighted the fact that not all long-term incomes are in fact secured income. A long term master lease with fixed rent for a hotel asset has proven to be less defensive than what investors may have thought previously since occupancy could fall to zero in a health crisis and the lessee may struggle to meet the fixed rent obligation. I think the focus on cash flow resilience will increase as a result of this crisis.
How should investors be playing the market?
Core asset pricing has so far proven to be fairly resilient during this crisis and I think this has to do with investors’ focus on good quality cash flows in the best locations. Even if this means a lower income return since the cost of borrowing is unlikely to move meaningfully higher anytime soon. On the other hand, there may be more opportunities to acquire at a discount in segments that involve higher leasing and management risks. For investors with a higher risk tolerance, it might be worthwhile exploring opportunities with some value-add potential.
Are we beginning to see the recovery?
The worst of the crisis is likely behind us as economies continue to reopen. That being said, there are other macro headwinds that are playing out, chief of which being the re-escalation of tensions between the US and China, which will likely weigh on the recovery. Historically, the stock market leads the direct real estate market by about 12 months. It now seems like the stock market had bottomed in late-March which would suggest the bottoming of the real estate market early next year if the historical relationship holds. However, there will be important differentiations between the sectors. For core office and industrial assets, the risk to the downside in pricing is likely limited. On the other hand, it is likely that the structural decline in retail property values will continue to play out beyond the next 12 months.
What shape will this recovery take?
Our current base case is that the recovery will take the shape of an inverse J – i.e. a sharp and deep recession in the short term before a gradual recovery though there will be some lasting damage that results in some permanent loss in output. We think there is a chance that the virus will return in 2021 but at the moment our base case is that it will not be to the same extent and we expect the healthcare systems to be better able to cope with greater testing capacity.
Which countries are rebounding? Are we likely to see any prolonged slump in some countries?
The North Asian markets (China, Japan, Korea and Taiwan) as well as Australia and New Zealand are well ahead in terms of reopening and returning to normalcy, compared to the South and Southeast Asian markets. Importantly, it appears some of the emerging markets are increasingly concerned about the costs of lockdowns and appear to be easing containment measures prematurely. India is a case in point where containment measures are being eased even though there is very little to suggest infections have been brought under control. The risk is that such premature easing of measures ultimately backfires and cause more problems for the economy.
What assets are likely to rebound first?
As mentioned above, industrial properties will continue to attract investment capital and we see limited downside in pricing from here. In fact, the transaction value of industrial properties in Australia during the first five months of this year has already surpassed that of retail properties, notwithstanding the virus. Similarly, multifamily assets in Japan are likely to be fairly defensive as well, especially those in Tokyo. Core office assets in key gateway cities in developed APAC markets are also likely to attract investment capital in the near term, notwithstanding the concern over lower demand for office space in the longer term.
What are the great opportunities opening for investors?
Core asset pricing has hardly budged during this crisis and we think there are likely more opportunities to acquire at a discount in segments where there are higher leasing and management risks. As such, it may be worthwhile for investors with a higher risk tolerance to explore value-add opportunities.
A look at alternatives – where should investors be investing
Senior housing in Japan should continue to benefit from long term structural demand. While there are near term concerns over operators’ profitability given the increased emphasis on sanitary standards and manpower challenge, this could accelerate the consolidation of operators and ultimately improve the credit worthiness of tenants for landlords over the longer term. Data centres will benefit from increased data consumption as a result of the secular trends that have been accentuated by the crisis, such as remote working, demand for online entertainment services and online retail.
Will this be a good vintage?
For core-plus and value-add strategies that are able to capitalize on softer pricing, this could prove to be a good vintage.
Is COVID-19 likely to alter the flow of capital across APAC?
We expect investors to err on the side of caution in the near term, which suggests investment capital will likely focus on the core markets in developed Asia where there is market depth and liquidity such as Japan, Australia, South Korea, and Singapore.
Will we be seeing new players in the market?
We will not be surprised to see more new players in the market although the recent trend seems to be that end-investors are increasingly selective in terms of the managers they work with, preferring to concentrate their capital among fewer managers. This could pose a higher barrier of entry to new players without a unique proposition.