Distressed property markets where deals are difficult to finance and yield spreads are at all-time highs provide attractive investment opportunities, according to Morgan Stanley’s real estate unit.
In the Asia-Pacific region, Morgan Stanley Real Estate Investing is most focused on China, India, Australia and Japan, said Olivier de Poulpiquet, who helps oversee $36 billion in real estate assets as the global co-head for the unit. In India and China, demand is driven by strong demographic trends amid a dearth of financing, while in Australia and Japan, low borrowing costs are providing opportunities, he said.
Morgan Stanley, with a team of 280 globally in 11 countries dedicated to the property business, has about 45 percent of its investments in the U.S., 33 percent in Asia and about 22 percent in Europe. In many developed markets, such as U.S., Japan and Australia, the yield spread between real estate and the risk free rate, typically the interest rate on U.S. Treasury bills, is as much as 400 basis points, de Poulpiquet said.
“Asia and the U.S. will continue to offer opportunities,” de Poulpiquet said in an interview in Singapore yesterday. “Investments in real estate have seen a flight to safety globally and in particular in the U.S. and Europe.”
Interest in property investments by institutional investors is improving as the asset class is viewed as an effective portfolio diversifier and an inflation hedge, de Poulpiquet said. Allocations to real estate by major institutions may climb from an average of 7 percent currently to 10 percent, he said, without providing a time frame for the increase.
In India and China, Morgan Stanley is finding opportunities by financing developers that are seeking money to complete projects amid a scarcity of capital, de Poulpiquet said.
In its almost three-year effort to tighten the property market, the Chinese government has raised down-payment and mortgage requirements, imposed a property tax for the first time in Shanghai and Chongqing, and enacted home-purchase restrictions in about 40 cities. India’s biggest developers have struggled to rein in record debt as they grapple with high borrowing costs, dwindling sales and banks’ reluctance to lend.
“The major trend in these markets is that this growth is combined with a capital constrained environment for real estate, mostly driven by government interventions and price cooling measures,” de Poulpiquet said. “In India and China, there is less opportunity to buy existing assets but greater opportunity to pick the right developer and build to either lease or sell.”
India will have 127 million more working age adults by 2020, while in China, the 470 million adults leaving rural areas for cities will reach a rate of 11 million per year, said de Poulpiquet. Over the next 15 years, the total global urban space growth will reach about 82,000 square kilometers (31,660 square miles), 47 percent of which will be driven by India and China, he said.
In markets such as Shanghai, the supply of class A office spaces is relatively low while demand is forecasted to remain robust, de Poulpiquet said. In India, the trend is similar where the residential sector continues to offer interesting opportunities, he said.
In Australia, distressed assets sold by European banks which are undergoing deleveraging processes to clean up their balance sheets are attractive, said de Poulpiquet. In Japan, Morgan Stanley is buying class B office assets in Tokyo and greater Tokyo, he said.
“In many markets globally, including Japan and Australia you can buy class B plus assets, at significant yield differential between your cost of borrowing and the real estate yield,” said de Poulpiquet. “It is a relatively safer investment with good quality yield and return profile.”
Europe will also increasingly offer attractive investments in real estate with all the level of distress in the market, he said. Still, Morgan Stanley remains “cautious” and focused on making “defensive investments” in the region as prices still have some room to fall, he said.
“Overall, we will see slower growth, more volatility but in Europe, it’s neither a doomsday scenario nor in a happy recovery and this will last for a while,” he said.