Foreign investors, especially opportunistic US funds, have been eyeing Japan’s property markets for much of the past 10 years, waiting for cheap assets to be offered. But it has been very frustrating for almost all the ‘foreigners’. Patience could soon be rewarded.
Although impeded by political inertia, pressure from the stagnating economy has built up for the government, banking sector and major companies to proceed more rapidly with key structural economic and financial reforms. The implications for the hitherto closely held Japanese real estate market are likely to be profound.
Despite strong fiscal stimuli from central and local government and the Bank of Japan’s zero interest rate policy, the Japanese economy remains stubbornly depressed. In a deflationary environment, consumer confidence remains weak. As the US economy slows, export demand is dropping, despite the weak yen. The deterioration in the Bank of Japan’s March tankan survey of business sentiment hints at the prospect of another slide back into recession.
With the Liberal Democratic Party near paralysis, central government debt already over 130% of GDP and monetary policy loose, the room for manoeuvre is distinctly limited. There appears little choice but to press forward with structural economic and financial reforms. Hence the latest emergency measures, announced in early April, focused on the creation of a public body to buy shares from troubled banks and a two-year timetable for banks to clear non-performing loans.
The work of the Financial Reconstruction Commission is coming to a head in 2001. Companies are gradually unwinding complex patterns of cross-shareholdings. Pressure is mounting on the banking sector for more accurate acknowledgement of the level of non-performing loans. The result could be a greater pace and more profound restructuring in the finance sector. Four megabank mergers have been announced (although progress on implementation remains slow):
q Mitsubishi Tokyo Financial Group (Bank of Tokyo-Mitsubishi, Mitsubishi Trust and Banking and Nippon Trust Bank);
q Mizuho Financial Group (Dai-Ichi Kangyo Bank, Fuji Bank, Industrial Bank of Japan);
q Sumitomo Mitsui Banking Corporation (Sakura Bank, Sumitomo Bank); and
q United Financial of Japan (Sanwa Bank, Tokai Bank, Toyo Trust and Banking).
If banking consolidation proceeds and the pace of corporate restructuring picks up, there could be a significant increase in the volume of commercial real estate available for lease or sale as companies rationalise their needs and look to unlock the capital held in real estate assets. In Tokyo’s tight Grade A central business district office market, with a vacancy rate of just 0.9% at the end of 2000, this could provide welcome relief for international tenants and opportunities for international investors.
The adoption of market value based accounting this year will require acknowledgement of unrealised losses on securities or real estate. This poses a significant challenge for many firms, which have long held securities or real estate on the books at acquisition cost. Already a number of major property companies have declared exceptional losses as they write down property values. These include:
q Mitsubishi Estates – ¥90bn (e800m);
q Tokyo Tatemono – ¥35bn; and
q Mitsui Fudosan – ¥20bn.
There are likely to be more to come. With assets more appropriately priced on the books, one disincentive for companies to sell will be removed. This could provide new opportunities for international investors to acquire quality assets in Japan’s commercial real estate markets.
In the first quarter 2001, there was a considerable surge in direct real estate investment activity. In large measure this was to enhance year-end financial reports. Two medium-sized life insurance companies disposed of key assets:
q Tokyo Life sold its headquarters, a mixed use office and hotel building to Heiwa Real Estate for ¥12.3bn;
q Chiyoda Life sold four properties to different purchasers: Nagato-cho 2-chome Building to the Prudential for approximately ¥60bn–65bn; Ebisu Prime Square to Morgan Stanley Dean Witter for ¥40bn; Chiyoda Life Headquarters to the local government for ¥17.3bn; and Kyobashi Chiyoda Building to Mori Trust for about ¥24bn.
One of the most interesting real estate developments in 2001 is the widely expected start of a real estate investment trust (REIT) market in Japan, probably in May. In principle, J-REITs, which are expected to provide returns in the range 3–6%, should prove attractive to local retail investors able to achieve a return of just 1.3% on 10-year government bonds.
They should provide a welcome source of liquidity into the real estate markets but much will depend on investor’s perception of the transparency and efficiency with which major Japanese real estate owners operate the funds. Activity is already increasing. In the first quarter Fund Zeta, Mitsui Fudosan’s J-REIT, purchased the NKK Headquarters Building for ¥73bn. MRB Investment, Mitsubishi Estate’s J-REIT, purchased the Mitsubishi Research Institute Building for ¥23.3bn.
There is the prospect of a great deal more institutional real estate investment activity in Japan in the months ahead. Most European investors currently regard the Japanese real estate market as opaque. They also believe there are better opportunities closer to home. But this attitude warrants a re-appraisal. Although transparency, pricing and risk remain issues, the waiting appears finally to be over for direct and indirect international investors in the Japanese real estate market.
Tim Bellman is head of research for North Asia at Jones Lang LaSalle in Hong Kong. Toyokazu Imazeki is head of research at Jones Lang LaSalle in Japan