The influence of people power
The property market is familiar with structural growth in demand because the number of people in all age groups has steadily risen since the second world war. Even when the markets experienced crises of oversupply the problems were alleviated once economies improved and people and businesses needed new space. However, when the population stops growing, or even contracts, this happy situation is likely to change.
The quantitative demand for office space is ultimately driven by the number of people who work in offices. In many European countries, this number is expected to shrink. For Spain, for example, the UN expects a total decrease of the labour population of 41% by 2050. Other European countries where the expected decrease is strong include Italy, Germany and most countries in eastern Europe.
A shrinking labour force implies that the demand for office space goes down, which is a problem for real estate, as the supply is very sticky. However, due to mitigating factors like later retirement and increased female labour market participation, a net increase in the working population is still possible in some countries. The exact size of the increase will depend on political and institutional developments that are very uncertain, and the office markets are about to enter an era of much more fundamental uncertainty than they have experienced in the past.
The quantitative demand for retail space depends on the size of the total population and its purchasing power. In almost all countries, the total population is expected to grow a while longer than the working population. This suggests that the expected shortfall in the demand for retail space is not as urgent as it is for office space.
The age composition of the population also has an effect on the quantitative demand for retail space as different age groups have different spending patterns.
Remarkably, the 65-74 age group spends more than average, and this group will grow in the next decade, implying a potential increase in consumer spending and consequently, in the demand for retail space.
The force driving the demand for housing, the number of households, is a function of the population and the average household size. Household size is still decreasing, which means that the expected contraction in the population will be partly offset.
For Europe, the maximum number of households is likely to be reached in 2015 with an expected total of 226 million households, 15 million more than in 2000. So, based on current demographic predictions, European housing demand has approximately 10 more years of growth potential.
The big question is how institutional property investors should adapt to these developments. Institutional property portfolios have traditionally been dominated by offices. This was caused by a number of practical reasons, like scale and the need for reliable - corporate - tenants, but most of all it was caused by society's needs. Capital could be invested into offices, because we needed office space to work.
However, if the developments outlined in the previous section will indeed materialize, we will need less office space, while demand for residential and retail property is likely to show continued growth. At the same time, governments all over Europe are pulling back from sectors they have traditionally been providing capital to. Examples are social housing, healthcare, education and infrastructure. This provides investment opportunities into new property and property-related categories.
For example, a substantial part of the housing demand resulting from the continued growth in households will be rental. Traditionally, many of these would be supplied by social housing institutions, but in many European countries, these no longer have the easy access to government-provided capital they are used to. This provides a clear opportunity for institutional investors to step in.
Our future society will have more people of 65 and older and less people of working age. As a group, these people share two characteristics: they have more free time and the older they become the less healthy they get. So what types of property will they need?
In the early phase after retirement it is likely that they will need properties associated with leisure. Examples are second homes, sports and entertainment facilities, shopping facilities, and properties in which living and leisure are integrated. Safety will probably be an important issue for all of these property products. It is also likely that the amount of second homes will proliferate, with people having (or renting) an apartment in their home country, and a house somewhere in the South. Spain has already been called the Florida of Europe
However, as retired people get even older, they will get less healthy, and as a result, they will need less entertainment and more care. This development also provides potential investment channels for institutional investors. In many European countries, the health care industry is becoming less state-dependent, and as the economic rationale for health care institutions to own their properties is weak, an unbundling between property ownership and the supply of health services is likely. Again, institutional investors could step in.
In short, future property markets are likely to be driven by stagnating or even falling demand for the traditional types of space. Offices, especially, will be hurt by this, so diversifying out of offices seems like a good idea. The likely alternatives are not crystal clear, but given the demographic developments, leisure and care facilities seem likely candidates for institutional capital, as are non-traditional products like social housing and infrastructure. In general, capital should go to the properties that society needs - as it has always done.