Investors rely on sentiment. Sentiment is fragile.
At the end of January, PwC and the Urban Land Institute published the 9th edition of our annual Emerging Trends in Real Estate Europe report. The report is a survey of sentiment, a consensus view of what the real estate industry expects to happen over the coming year. For the 2012 European report, we conducted 310 face-to-face interviews with senior executives from across Europe from a broad cross-section of the industry, institutional investors, fund managers, listed and unlisted property companies, lenders and service providers, together with 386 online survey responses.
The prevailing mood of this year’s report is one of uncertainty arising from the unpredictable but broadly gloomy economic outlook. At the time the interviews were conducted, the immediate concern, as now, was the sovereign debt crisis, but there was also the longer-term worry as the impact of austerity measures begin to bight across Europe. There is a general acceptance that for the foreseeable future it will be a continent without meaningful economic growth. This has a direct effect on investors’ attitude to the individual cities across Europe ranked in the report. The consensus view is that no cities are expected to show rental growth and only two cities, Istanbul and Munich are expected to generate real estate capital growth. In both cases, the percentage supporting the overall positive outlook is tiny.
The economic uncertainty, coupled with the effect of major regulatory change is also having a huge impact on the capital markets. The prevailing mood is that new debt will be significantly less available in 2012 than in 2011, with the lenders themselves the most gloomy. No lenders thought that debt would be more available. Only 6% thought that debt would be as available, with 42% believing debt would be modestly less available and 52% believing substantially less available. The pressure on the banks to reduce their exposure to real estate lending is expected to result in more assets coming to the market. The other positive news is in respect of equity, where the availability is expected to be greater in 2012 than 2011. The most positive are the equity providers themselves. 65% believe that equity would be modestly more available and 10% believing substantially more available. It is important to note, however, that this capital is risk averse and feels under no time pressure to invest.
What does this mean for city investment appetite? In an environment with no economic growth, no rental growth and no capital growth, real estate investment will be a much more granular business. Finding and exploiting individual opportunities rather than making a bet on cities or asset types will be the way to make returns. On the positive side, pressures are building that will create these granular opportunities. National and local governments need to raise cash. Lenders need to reduce their assets. Some open and closed-ended funds need to wind up. CMBS structures are reaching maturity. All of this will create a flow of assets into which to invest. Turning these asset level opportunities into something in which capital wants to deploy will require a combination of players and skill sets. Strong asset management skills are essential, but new ways of bringing the equity to the investment are also needed. Innovation and adaptation will be rewarded.
John Forbes is a partner at PwC advising real estate investment managers. He is one of the authors of the Emerging Trends in Real Estate Europe report.