Money flows go property way
Institutions are back in the real estate market. Nothing to do with property, everything to do with the current state of equity markets, says Andrew Jackson, investment director of real estate, Standard Life Investments in Edinburgh. Poor equity performance has led to a reappraisal of real estate by UK institutional investors, who see the opportunity for good returns. With real estate typically having a six to nine month lag over general economic conditions, to a greater extent than other investment types, “it’s an excellent time to buy into the property markets, because the property market has really come off”, says Jackson.
Standard Life’s own pooled pension property fund which has just reached the £1bn (E1.5bn) mark has received record levels of inflows into the fund of between £30–40m per month, underlining the fact that real estate is very much back in favour. Increased activity from the institutional market has also helped them win two segregated mandates last year from the Lothian pension fund and South Yorkshire pension fund, managing £220m and £120m respectively.
With property set to outperform other asset classes over the next five years, overall pension fund allocation to real estate is very much on the agenda. Aberdeen Property Investors (API) recently suggested that pension funds should increase their exposure to 15% of the overall portfolio. However, Jackson views this as somewhat high given liquidity concerns. Although the larger pension funds, given high income yield and profit of 7% might want to increase their property weighting a little further, “it’s not an asset class you can pile out of that easily”. Dependant on the size and maturity of the pension fund, he recommends between 5–10% of overall portfolio exposure.
Broadening investment horizons beyond a merely domestic basis is certainly one way to improve liquidity. Given the size of the European market, increased opportunity and risk diversification, Jackson finds it surprising that more UK institutions are not investing cross-border. Although UK-based institutional investors are starting to move towards continental Europe, it is in some respects about overcoming psychological barriers. Not just a matter of lack of product, but “so many funds use benchmark now that the tendency is towards the status quo the whole time”. A certain amount of courage is needed to move away from their benchmark, but he believes that UK investors will be rewarded for making that decision before others.
With the Investment Property Databank (IPD) trying to develop databanks in the various local markets, “it’d be good to see these come together”, says Jackson. Although a European real estate index remains as yet unrealised, Jackson would welcome it, as it would provide “clarity for investors; they can see what they’re getting into and some of the risk”.
Success in Europe however is underpinned by local knowledge of the real estate markets which is “incredibly important”. Unlike the UK, “we have a lot more reliance on local partners, people looking after individual assets, project managers or developers, they have to be very much local players”, says Jackson.
Apart from the diversification issue, one of the reasons for liking continental Europe is because of the way in which lease structures operate. As Jackson says, they are “slightly different, you get annual indexation so you get uplifts on your rent based on inflation on the on the continent, you don’t get that with the UK”.
Attractive as Europe may be however, strong management skills and the ability to deliver outperformance in the UK remain “by far and away the most important aspect”, says Jackson. As a now distinct asset class with well-provided information, the real estate market in the UK has certainly grown up with continental Europe still some way behind.
Compared to other investment markets, the lowest levels are returning 6-7%. Debt investors continue to underpin the market and retail money has come into the market through unit-linked funds, property unit trust and with small pension funds increasing allocation. On the continent, the German open-ended funds are also seeing record flows into their funds. With institutions also back in the UK real estate market, as Jackson says, the money being allocated to property at the moment is huge.