April 28, 2020
General Commentary
- Economic effect of COVID-19 has been felt globally since late February.
- $3.3tn estimated cost of global health and relief measures (i). The US Fed balance sheet to increase by $2tn (+50%) in 2020.
- UK balance sheet also expanding with borrowing set to be £273bn in 2020.
- 9 million employees now being paid directly by the government (ii).
- IMF predict that most G7 economies will see a deep recession in 2020 and a recovery from 2021 onwards, with northern European, North America, Japan and Chinese economies coping best.
- Recovery relies on public compliance with health measures and the creation of a cure or vaccine for COVID-19 being widely available in the next year.
Summary: Unprecedented government intervention is unlikely to stop a very deep global recession, with the speed of recovery in the hands of science.
UK Real Estate Market Commentary
- UK all property valuations fell 2.7% in Q1 2020; retail assets suffered the worst falling by 6.3% (iii), although asset valuations were caveated with Material Valuation Uncertainty clauses.
- Transactional volumes have reduced very rapidly after a strong start to Q1 2020 due to physical restrictions, limiting ability for “price discovery” of an assets real value.
- London is expected to hold up better than rest of UK, as overseas capital continues to seek safer haven locations and asset types.
- Delivery of new buildings is reducing as many construction sites are closed (impacting 79% of residential units) (iv). 2020 will likely see 30% less residential units started than 2019 (v).
- Only 60%+ of tenants have paid rent in March 2020, usually paid quarterly in advance in the UK, versus 90%+ in an average quarter (vi). UK Government suspended property owners remedies for non-payment.
Summary: The real estate market is in hibernation and the real impact has not yet been felt.
Fiera Real Estate UK Short Term Market Forecast (6-18 months)
- Tenant Default: Non-payment of rent and vacancy rates will increase in the next few quarters as disruptions bites (Q2 2020 will be much more disrupted than Q1).
- Asset Sales: Defaults on interest payments are unlikely to be ignored by banks (unlike the valuations defaults in the GFC).
- Demand Shock: Changed consumer behaviour will mean many occupational sectors will collapse (leisure, hospitality, non-food retail, transport). This will outweigh the supply shock (lack of delivery), with uncertainty of income receipt increasing the risk premium investors demand for holding assets.
- Falling Real Values: Asset value will decline as sales happen relatively quickly, with average values falling >20% if the UK REIT market is a guide (vii), although high quality assets will hold up better.
- Emerging Investor Activity: More pro-active investors will start to look for blind pool funds and structures unencumbered with legacy issues through which they can enter the market.
Summary: Prepare for a short, sharp fall in values during 2020.
Fiera Real Estate UK Medium Term Market Forecast (12-36 months)
- Falling Yields: Rapid and huge governmental intervention and liquidity will reduce yields across all income producing assets. As occupational markets stabilise (sector by sector) demand for Grade A income producing assets will grow, pushing yields lower.
- Inflation Worries: The increased liquidity may create longer term inflation pressure that enhances the attraction of real assets.
- Unchecked Demand: UK population growth will continue (it’s the highest growth rate in the main European countries and the most densely populated country) ahead of the reduced new supply of assets, driving pricing in most sectors, especially residential.
- Gradual Economic Recovery: As the economy slowly picks up, real rents will start to grow, especially in the office and warehousing sectors reflecting lack of supply.
- Brexit: The changes driven by Brexit (new corporate real estate footprints and new supply changes) will remain, even if the UK and EU extend the transition beyond 2020.
- Technology: The COVID-19 experience will accelerate the ongoing changes, with the continued growth of online sales in the UK (already No.1 per capital globally) (viii) and shift to amenitised offices to attract remote enabled workers.
Summary: Longer term, the relative performance of real estate in the UK will be excellent for investors with better quality assets, low leverage and experienced management.
Author: Alex Price, CEO, Fiera Real Estate UK
i IMF April 2020
ii OBR April 2020
iii MSCI Monthly index April 2020
iv Savills and MHCLG April 2020
v Source JLL April 2020
vi Savills April 2020
vii FTSE 350 REIT performance 24th February 2020 to date
viii Ecommerce foundation 2019