Decline in inflation and interest rates is the key to recovery
This year has started on a decidedly uncertain note but could end positively if inflation and interest rates go down, experts agreed at Real Asset Media’s Global Outlook 2023 – Key Trends briefing, which took place recently at Nuveen’s headquarters in London.
“Interest rates are the key”, said Assem El Alami, Head of International Real Estate Finance, Berlin Hyp. “We expect them to peak this year and then decline. If it happens earlier, there will be less of a hit to real estate values. If it happens later, then it will be harder.”
The jury’s out on whether the recession will be shallow or deep, short or long-lasting.
“Our view is that we’ll have a modest to mild recession,”said Megan Walters, global head of research, Allianz Real Estate. “We’ve seen spikes in inflation due in part to supply & demand disruption and the Russian invasion. The reaction from Europe has been phenomenal, but the war could last another two years.”
Another area of concern is the labour market, which has changed after Covid. The record levels of vacancies, especially in the US and the UK, are driving wage growth which is feeding into inflation and forcing central banks to act.
“We believe in the medium term we’ll be in a low interest rate environment again,” said Stefan Wundrak, head of European research, real estate, Nuveen. “Normality will return when inflation is brought under control.”
Things are not normal now, as investors are in wait-and-see mode and activity has paused.
A price correction is already under way in some sectors but experts agreed there is more to come.
“I was surprised on a recent visit to the US that over there there’s an expectation of a big correctio,” said Audrey Klein, non-executive board member, chair of ESG committee, SFO Capital Partners.
“I’m uneasy to hear of pessimism in the States now, because we look at the US for flashing danger signs, like before the GFC,” said El Alami. “But the GFC was a debt crisis, while now there is no crisis on senior debt. This time the correction will hit the equity, but there’s a lot more equity in the market so there won’t be a wave of defaults.”
Funding costs have increased substantially and this will trigger equity calls or asset sales for clients to get on a more stable footing.
“Berlin Hyp will keep doing business but we’ll be very cautious this year,” El Alami said. “There will be less investment loans and less new lending, because we must make sure lending structures are sustainable.”
Market dynamics have changed, but it is not all doom and gloom: Europe may be standing still but other international investors are ready to move.
“Transaction volumes are down but people are still actively looking at real estate, which is seen as an inflation hedge,” said Walters. “There’s a pause in Europe, but Asian and US investors want to increase their allocations and they want value add, so they’re prepared to go up the risk curve.”
While waiting for the transaction process to spring back into life and examining the weaknesses in the market, it is important to notice its enduring strengths as well.
“The occupier side is robust,” said Walters. “Tenants are still paying rent and buildings are still being let. The pause is just on the investor side, and even then it is not absolute. Vibrant cities like Berlin, Barcelona or Amsterdam, that have a strong tech sector and many young professionals, are still attracting investments.”