Where does Real Estate go from here?

There is no way to sugar coat it, Real Estate has had a tough 12 months. Re-pricing is taking place across sectors, as both risk-free rates and debt costs increase against the backdrop of a deepening UK and European economic crisis. Several open-ended funds have gated redemptions as a result of investors withdrawing capital to rebalance portfolios, and we have witnessed first hand some fundraisings being postponed, with managers instead choosing to focus on the asset management of their existing portfolios.

However, we are starting to see signs of green shoots. Last week the Bank of England governor, Andrew Bailey, said “a corner has been turned” on inflation, and there is a general expectation of a shallower recession than initially forecasted. In real estate, occupational markets in the UK and Europe have remained stable, as pandemic-induced vacancy rates continue to decrease, and although we have not yet seen a return to pre-pandemic levels, the demand for better quality space means that prime assets in particular will continue to demonstrate growth. While transaction volumes are down there is reduced price discovery, although we know that a number of value-seeking managers are keeping an eye on the UK market ahead of Q4 valuations coming through (including those we have spoken to from the North American markets), and we expect transaction activity to increase as a result.

Speaking to our clients, we are increasingly optimistic about the Real Estate sector as 2023 progresses. A number are in the process of planning new funds to raise institutional capital in the spring. While many of these are successor funds, we have seen some managers consider new strategies, focusing on high conviction sectors such as healthcare, life sciences, digital infrastructure and student accommodation, all of which are benefitting from clear structural tailwinds. In the logistics and residential sectors, we have seen strong yield compression, but these sectors continue to have solid potential for rental growth, and development strategies in these sectors are still attracting fresh capital. From a fundraising perspective, we know anecdotally that several large institutional investors are reducing their direct Real Estate strategies in favour of indirect programmes with blue chip managers, and in the UK many pension funds may quickly find themselves underweight in private markets. Finally, the trend of North American fund managers looking to Europe for capital has continued, particularly as many US institutional investors found themselves fully allocated to private markets by the autumn of 2022, and we expect to see more of the same throughout 2023.

Outside of blind-pool fundraising, we have seen a trend towards JVs and clubs from some of the large pension and sovereign wealth funds, who continue to seek out sector specialists in the UK and Europe. A number of such deals have made headlines of late, such as Greystar and GIC’s acquisition of Student Roost, and Longfellow’s life sciences JV with PSP and Norges.

More widely, we continue to see the impact of the Sustainable Finance Disclosure Regulation on real estate funds, with the level 2 Regulatory Technical Standards being introduced on 1 January. Several of our clients have launched or are launching funds classified as Article 8 or 9 under the regulation, although how “sustainable investment” should be defined is still up for debate, with no clarity forthcoming from the European Commission. We believe that ESG will continue to play an important role in the real estate industry, and funds with strong ESG principles will prove popular as institutional capital returns to the asset class.