Despite the public equity market’s generally impressive performance in the first half of 2019 – total returns for the six months to end of June were 9.1% in UK and 9.4% in Europe ex UK, according to EPRA, REITs across Europe continue to be priced at a significant discount to NAV.
At the end of the second quarter, the discount to NAV averaged -22.6% in the UK and -14.3% in Europe, according to CBRE data. This extends to three years the length of time in which the UK has traded at a discount of greater than -13.5%; indeed, the average discount of the last three years has been -19%.
Dominic Smith, Senior Director, Research at CBRE, explains:
“When compared historically, similarly prolonged periods of under-valuation have provoked either recapitalisation (in the wake of the GFC) or concerted take-private activity (in the period around the dotcom boom when real estate was under-appreciated). The question might thus reasonably be asked; why is this time different?
“To answer, we need to explore more beneath the macro focus. Beginning with where discounts are largest. In the retail sector there is still an element of ‘catching the falling knife’- investors are monitoring the sector and are definitely pursuing selective (increasingly distress-driven) opportunities at the asset level, but conviction remains low with regards calling a bottom in pricing.”
M&A activity has been concentrated in sectors priced more aggressively, CBRE added, where investors nonetheless have more confidence in long-term sustainable income growth.
Elsewhere, many of the REITs themselves are engaged in portfolio rationalisation exercises. In the office sector, Green REIT has, citing the persistent discount to NAV, announced plans to sell its portfolio as the best way of maximising shareholder value – but it is untypical of the market given its external management structure and a highly concentrated portfolio.
“Investors have typically been sceptical of the value of a platform in the office sector, where barriers to entry are low and tenant concentration lower; this may explain why more REITs, not possessing Green’s advantages in this regard, have not followed suit.
“Indeed, where corporate activity has actually occurred – rather than been rumoured or abortively attempted – it has mainly been in areas of the market trading at or above NAV, where large (platform) transactions have appealed to investors for strategic reasons, where confidence could be had in valuations, and /or where future growth (in value or in pipeline terms) was part of the deal.
“In other words, in those areas of the market – logistics, residential, alternatives – that have seen greatest investor interest over the last few years. It seems unlikely to us therefore that corporate activity will buck the wider investment trend any time soon.”
CBRE’s H1 2019 European market analysis continues all week.