28 September 2017
If a market is being influenced by outside factors, disruptions are bound to arise eventually. Influential factors of this nature can be triggered by tax incentives and have also been observed in connection with the elimination of banking secrecy and capital market interventions.
Interventions in capital markets are used to deliberately usher in or respond to economic trends. These measures are frequently accompanied by changes to the interest rate framework. In Switzerland, for instance, negative interest rates were introduced on bank balances in January 2015.
The yield compression on fixed-interest investments caused by the interest rate situation has driven institutional investors toward real estate investments (for their above-average yield spread and attractive risk/return profile). On the other hand, real estate investments have become highly popular among private and professional investors, as well, due to their favorable financing conditions.This heavier demand has boosted production and led to an increase in vacancies in geographically- and segment-specific portions of the real estate investment market, a trend that has been on the radar for some time now.It comes as no surprise that earnings losses, due either to vacancies or the stronger bargaining power of tenants, are growing in frequency. Net immigration has been on the decline since 2013, in part as a result of capital market interventions in Europe. What’s more, we have known since the start of the decade that the immigration structure is changing, a fact that not only has an impact on demand for residential properties but, by way of jobs and consumption, also affects the commercial real estate segments.Capital-market-driven influences on the real estate investment market have been causing investors to disregard the question of the sustainability of returns for some time now, in part as a result of an upward trend in property prices sparked by interest rates, and pushed real estate prices up.
The results of the latest survey on the Swiss Real Estate Sentiment Index 2017 (sresi®) indicate that this price trend was not linked to developments in the real economy. Despite a significantly improved assessment of the economic situation (from -20.9 pts. to +34.6 pts.), expectations regarding upcoming price trends have deteriorated substantially. The price index, while still slightly positive, is only 26% as high as it was in the previous year.
Respondents of the Swiss Real Estate Sentiment Index survey still expect prices to rise slightly for real estate investments in the residential segment. The trend has abated, however, and the segment-specific index is now nearly 50% lower than one year earlier.
A positive price trend (+65.5 pts. on a scale of -200 pts. to +200 pts.) is expected for principal centers over the next 12 months. Secondary centers have lost ground and are slightly negative. Peripheral areas are lagging far behind and nearly all respondents indicated that they expect prices to fall, in some instances even sharply (‑97.8 pts.). The gap between location qualities has widened considerably.
The end of the interest-rate-driven price rally is upon us. Somewhat less than half of the respondents expect the next 12 months to bring stable prices while a quarter of them foresee a price drop. Compared to the previous year, price expectations are down in every region. 53% of those surveyed also anticipate increased market risk.
A change is on the horizon in terms of investors’ willingness to pay, but supply has not yet adapted to this new reality. While supply and demand are still balanced in the office, retail and commercial segments, meaning that they still offer adequate investment opportunities, the residential segment has a major, ongoing shortage of investment opportunities (-133.5 pts.) that are in tune with the acquisition objectives of investors. The shortage of appealing investment opportunities in special-purpose properties has intensified even further, thus putting the index in negative territory (-47.5 pts.).
Now that capital-market-induced influences have upset the balance on the real estate investment market, the sector will have to deal with the next disruptive factor: digitalization!
90% of the survey’s respondents are absolutely certain that data & analytics, robotics and automation, and artificial intelligence will bring about lasting changes to the Swiss employment market. In terms of the real estate industry, significantly more than 60% of those surveyed expect this to have a strong impact on property management, leasing and facility management. The consensus seems to be that it will be a whole new ball game in the areas of assessment, transactions and portfolio management, as well.
91% of the respondents anticipate declining demand for retail space. Significantly more than half of them also expect a reduction in the amount of office space required.
In light of the looming changes, investors are focusing on location factors such as centrality and accessibility. These are the key investment factors for more than 90% of those surveyed. The most important criteria for both office and retail properties are flexibility and management efficiency.
The property not only has to be ramped up to keep pace with the agility of the increasingly digitalized environment, but investors also have to critically examine the financial sustainability of their investments and adequately consider the repercussions of external influences on their investment decisions, and do so beyond the time horizon of the asset class.