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CAPITAL ADVISORS | EMEA | AUGUST 2018
Real Estate Maintains MomentumPublic EquityPrivate EquityPublic DebtPrivate Debt
4Q highlights • Investors likes and dislikes have changed little over the past
eighteen months
• There is only very selective demand for retail exposure, but widespread preference for logistics and alternatives
• With the trends driving this long-term and structural in nature, it is hard to see this polarisation not persisting
• Public Equity exposure preferences continue to be mirrored in Private Equity
• Scale is an increasingly dominant factor too, with the number and size of large funds increasing in the last few years
• Funds over €1bn in size now account for over 50% of new equity raised, versus 33% a few years ago
• Four public CMBS transactions closed in Q2 2018; collectively worth c€1.5bn this marked a significant step up in activity
• Pricing was tight and investor interest high, with most deals being over-subscribed
• Further transactions closing before the Summer break will provide more tests of investor appetite
• Demand for Private Debt continues to be strong as a wide range of players fight to get access to the market
• There is evidence of margin compression at the super-prime end of the largest European markets and the prime end of other European markets
• With returns under threat and regulation increasingly onerous, banks are employing new structures to try to maintain or improve key measures of return
Private Equity
© CBRE LIMITED 2018 FOUR QUADRANTS | 01
HIGHLIGHTS
Private Debt
Public Equity
Public Debt
© CBRE LIMITED 2018 FOUR QUADRANTS | 03
SUMMARY
4Q investment outlook
02 | AUGUST 2018
Investment volume of €68.5bn in Q2 2018 propelled European commercial property investment volumes to €127bn in the first half of 2018. This is down 4% on H1 2017, but the decline was more than accounted for by the one-off Logicor transaction (€12.25bn) that occurred in the second quarter of 2017. This illustrates the depth of the current market environment – while industrial volumes were down on the same period last year, H1 2018 saw office and retail volumes increase by 10% and 4% respectively on the same period in 2017. The rolling twelve month all property total reached €288bn – an increase of 4% compared to the same period in the previous year.
As is typical for a mature stage of the cycle, ultra-large deals continue to be an important driver for investment totals and are often the explanatory factor for volatility in volumes. In H1 2018, this was illustrated by the Unibail-Westfield acquisition that involved several large prime shopping centres in the UK, and which contributed hugely
towards an increase in investment volumes in the UK retail sector. In Spain, Colonial completed its takeover of Axiare, boosting office investment figures. In the Netherlands, a €1.5bn residential platform transaction pushed investment volumes there to a record half-year total of €10bn in H1 2018. Due to investors’ appetite for scale and potential for efficiency gains, we expect activity in platform transactions to continue in the remainder of the year.
At the national level, the UK bounced back after a weaker Q1 2018. Several landmark office transactions completed, resulting in a record quarter for City of London office investments in Q2 2018. International capital accounted for 82% of the investment total for the quarter and 50% was driven by inflows of Asian, and particularly Korean, capital. This buyer group has been particularly keen to secure larger assets, and therefore investment turnover in the remainder of the year will be highly dependent on the supply of this type of product.
Germany’s strong start to the year – investment volumes are roughly in line with last year – is particularly impressive considering that there have been no transactions above €1bn recorded in 2018 to date. France is showing signs of strong growth after a year of political uncertainty; in the first half of the year almost €12bn was invested, an increase of 28% compared to the same period last year. The Benelux and Finland are also showing strong growth, seeing volumes rise by 48% and 23% respectively in H1 2018.
Keen pricing and a severe lack of product in the key German cities and Paris continue to be the main headwinds. Nonetheless, with supportive economic growth, ongoing high levels of interest in real estate and less upward pressure on European interest rates than elsewhere, there is potential for full year 2018 investment volumes to approach or even reach the record levels seen in 2017.
At the European level, H1 volumes were only slightly lover than in 2017. Of the major markets, France saw the largest increase.
H1 2017 H1 2018
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Figure 1: Investment volumes remained strong in H1 2018
Source: CBRE
Inve
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04 | AUGUST 2018 © CBRE LIMITED 2018 FOUR QUADRANTS | 05
4Q relative value
Our UK Four Quadrant pricing model compares relative values across the universe of real estate investment options. It calculates required and expected return for each Quadrant, and interrogates any gap to understand the extent to which this represents a pricing signal.
Once again, we present the results of our Four Quadrants pricing model, which compares relative value across the universe of real estate investment options. Currently, it is just for the UK, but will be widened out to the rest of Europe in future publications. It is deliberately simplistic, in part due to a paucity of performance data for some of the Quadrants, but also because of a desire to maintain its accessibility. It seeks to compare expected returns, defined by current market pricing and income growth forecasts (where relevant) with required returns, determined by the risk free rate and a risk premium that we have set. Further information on the methodology can be found at https://www.cbre.com/research-and-reports/United-Kingdom-Four-Quadrants-ViewPoint---Pricing-Model-July-2017
Currently, the model suggests that one Quadrant, Public Debt, is fair value – in other words, Expected Returns broadly match Required Returns – and the other three Quadrants, Private Debt, Public Equity and Private Equity are good value – Expected Returns are greater than Required Returns. The best value is once again to be had in Private Debt.
It is important to understand though that these signals should be treated
with caution. Although this model has shown good predictive power in the past, it may not hold into the future. Furthermore, investors should use it in conjunction with their own risk and return requirements in mind, as well as their own view of the cycle.
For those who view the UK cycle as increasingly mature, evidence that Private Debt appears good value will be welcome, given that it would be natural to favour this Quadrants when downside risk is a key consideration.
Those with a more optimistic outlook however, will perhaps see an opportunity in the Equity Quadrants. Public Equity offers the opportunity to buy in at a discount to Net Asset Value (NAV)* and to maintain liquidity, should it be required. Private Equity funds on the other hand have the advantage of greater income distribution – and a level of secondary liquidity that should not be discounted.
* [Note: the model does not factor in any widening or narrowing of the discount to NAV, either to zero or to the long-term average, both of which would be potential outcomes. With the UK Public Equity sector trading at around a -17% discount to NAV (versus 7% for Europe), this is a source of significant potential upside.]
RELATIVE VALUE
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Figure 2: Expected return versus required return, UK, Q2 2018
Private Debt Prviate Equity Public EquityPublic Debt
Perc
ent
Income Yield Expected Income Growth Required Return
Source: CBRE
PUBLIC EQUITY
06 | AUGUST 2018
Although the Public Equity quadrant is in many ways arguably the most dynamic of the arenas we cover here, certainly with regards speed and volatility of change, the second quarter of 2018 was very much an exercise in “more of the same”. Investors continued to express similar preferences and dislikes as in previous periods, with resultant impact on the performance of REITs in the sector.
Figure 3 compares individual REIT share price performance in Q2 2018 (on the y axis) with performance over the preceding 12 months (on the x axis), and groups companies into categories according to investment focus. There is a strong correlation between the two variables, indicating the degree to which out-performance has continued at the individual REIT level across the two periods. There are also a number of clear patterns in performance – and discount or premium to NAV – at the company and grouping level, which illustrate where investors’ preference currently lies.
Retail continues to under-perform generally, with only the occasional exception, as investors avoid exposure to income streams made more uncertain by the transformation of the sector. Retailer and food and beverage CVAs have created numerous headlines in the UK in the second quarter, undermining existing income and expectations of future rental growth.
On the other side of the coin, Logistics has been a consistent out-performer, as the sector has benefitted from the ongoing shift of retail sales online, and by the desire of all retailers to continue to deliver supply chain efficiency gains in an era of severe margin pressure.
Also out-performing have been Residential and Alternatives (the latter often being a specialist form of residential), as investors continue to put their faith in changing demographic and societal trends delivering greater demand for this form of real estate.
There is less of a consistent pattern of repeated performance from one period to the next with regards those REITs we have categorised as being Diversified or with a London or Office focus. This may indicate that in these areas investor preference is less allied to a broad long-term trend and driven more by shorter-term company specifics.
The immediacy and transparency afforded by Public Equity will surely provide further guide to investors in this and other quadrants over the second half of the year.
© CBRE LIMITED 2018 FOUR QUADRANTS | 07
PUBLIC EQUITY
The “Public Equity” Quadrant captures real estate exposure gained through ownership of shares in a company that is invested in real estate. Typically, these will be Real Estate Investment Trusts (REITs) or Property Companies. This class of investor may be diversified or sector-specific, and some will have exposure to development. Most will have a modest level of gearing (sub 50% LTV).
GENERALLY, THOSE COMPANIES AND SECTORS OUT PERFORMING IN Q2 2018 WERE THOSE THAT HAD DONE WELL OVER THE PREVIOUS 12 MONTHS.
Great Portland
LandSec
Capital & Counties
Intu
IGD
Eurocommerical
Unibail-Rodamco
Carmila
MercialysHammerson
Klépierre
British Land
Befimmo
Shaftesbury CeGeREAL
PSP Swiss
Derwent
Gecina Icade
Merlin Properties
LEG Immobilien
VonoviaCofinimmo
Beni Stabili
Warehouse de Pauw
Deutsche Wohnen
Sergo
Unite
Aedifica
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Figure 3: Public equity markets continue to favour certain exposure
Source: Bloomberg
-35 -30 -25 -20 -15 -10 -5 0 5 10 15 20 25 30 35
Residential Logistics Diversified Office RetailLondonAlternative
Year To Q1 2018 Price Return
08 | AUGUST 2018 © CBRE LIMITED 2018 FOUR QUADRANTS | 09
PRIVATE EQUITY
PRIVATE EQUITY
Many of the themes that we commented on last quarter (and indeed in prior quarters) continued to dominate the Private Equity market in the second quarter of 2018. Activity was strong, in both fund raising, deployment and secondary trading – our PropertyMatch business for example concluded 99 trades in the first half of the year (an increase of 20% or so on the same period last year).
The types of fund strategies attracting most interest were once again balanced funds, particularly pan-European, and specialists in favoured sectors or locations, such as logistics, student accommodation and leisure. Similarly, there has been no let-up in investors’ collective aversion to secondary retail. Long Income funds also remain popular, with pension fund consultants particularly keen on these strategies – indeed, they are probably the difference between portfolio allocations to real estate increasing (if long income is included) or decreasing (if it is excluded).
Pricing reflects these preferences of course. According to PropertyMatch, balanced funds have typically traded close to or at a slight premium to NAV, with virtually no interest in selling at less than NAV. Specialist funds in favoured sectors can command premia of up to 5% above NAV, as can long income funds – an indication both of investor preference and of the length of queues to get into some funds. On the flipside, units in specialist retail funds can change hands at discounts to NAV of greater than 10%.
We have also talked about the trend of increasing scale of fund size, and a study of Preqin data to the end of 2017 provides interesting evidence about this. Splitting recent history into a five year period (2013-2017) and a preceding ten year period (2003-2012) shows that roughly the same number of €1bn+ funds were closed in each period (16 and 17 respectively), but that with those funds in total accounting for €44bn and €25bn of equity, the average size of €1bn+ fund has risen from €1.5bn
in the 2003-2012 period to €2.8bn in the 2013-2017 period. Of the total equity raised in these two periods, the proportion accounted for by €1bn+ funds has increased from 33% in 2003-2012 to 51% in 2013-2017. Investors are exhibiting a clear preference for scale – albeit that this trait is likely not the goal in itself, but a perceived enabler of some other goals, such as lower costs (economies of scale on the vehicle and/or on the investors’ due diligence), greater diversification and better track record.
The “Private Equity” Quadrant relates to capital that is invested in entities that are not listed on a public exchange. Trading in these funds or companies will take place (if at all) privately. While private equity has a reputation for aggressively seeking higher returns through active management, higher risk stock selection and higher leverage, many funds falling into this category are in fact diversified funds invested in core real estate with little or no gearing.
THE PROPORTION OF EQUITY RAISED BY €1BN+ FUNDS HAS INCREASED FROM 33% IN 2003-2012 TO 51% IN 2013-2017. INVESTORS ARE EXHIBITING A CLEAR PREFERENCE FOR SCALE.
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Figure 4: Private equity funds increasingly dominated by larger players
Source: Preqin
02003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017
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10 | AUGUST 2018 © CBRE LIMITED 2018 FOUR QUADRANTS | 11
PUBLIC DEBT
PUBLICDEBT
Increasing redemptions of legacy CMBS continued to drive investor demand in Q2 2018, which saw four public (and one private) CMBS transactions close. Blackstone continues to play a leading role in the market, being behind two of the deals, although the other two public CMBS were backed by different sponsors.
April kicked off with the €530m Citi/Morgan Stanley CMBS for Blackstone (FROSN-2018 DAC) backed by 63 primarily office and retail assets in Finland. The transaction priced at the tight end of guidance and was well subscribed across the capital structure (A/75bps, B/85bps, C/100bps, D/140bps, E/220bps, F/300 bps).
The pace picked up in May with two public and one private transactions coming to market. Cheyne Capital privately securitised a €155m refinancing of the debt of LOV Hotel Collection (LHC) in France. Bank of America Merrill Lynch (BAML) successfully placed the Taurus 2018-
1 IT CMBS upsizing the original €300m issuance to €340m; the Italian transaction is backed by two Blackstone logistics loans and one loan backed by six shopping centres owned by Partners Group with all loans asset managed by Kryalos. The transaction was heavily oversubscribed (A/2x, B/5.4x, C/3.7x, D/3.5x, E/2.9x) and priced at the lower end of guidance (A/100bps, B/125bps, C/210bps, D/335bps, E/450bps). Goldman Sachs also came to market with the £427m Ribbon Finance 2018 backed by a portfolio of 20 Holiday Inn and Crowne Plaza hotels in the UK. The transaction was also well received and final pricing came in at the lower end of guidance (A/78bps, B/105bps, C/145bps, D/175bps, E/210bps, F/315bps, G/350bps).
June saw only one transaction close, the Goldman Sachs Dutch €235m Kantoor Finance 2018 backed by two loans made to PPF Real Estate Holding and Aventicum Capital Management. The PPF loan is secured by nine primarily retail/office assets and the
Iron loan is secured by nine office assets all located in the Netherlands. Despite some initial rumblings of pricing widening on the class B and E notes the deal priced well below initial guidance and is one of the tightest priced transactions this year (A/72bps, B/100bps, C/145bps, D/205bps, E/425bps).
There are three more transactions stated to close before the summer break. Morgan Stanley’s ELOC 31 LIBRA DAC backed by light industrial assets located in the Netherlands and Germany, BAML’s BAMS CMBS 2018-1 backed by UK light industrial assets and Goldman Sachs’ Elizabeth Finance 2018 secured by retail and office properties in the UK. We expect that these transactions will continue to be well received by investors and it will be interesting to see if there is continuing support for tightening pricing on CMBS transactions.
The “Public Debt” Quadrant encompasses borrowing by entities engaged in real estate investment, where that debt has been issued via a public market. In practice, this usually means corporate bonds of REITs or Property Companies, or securitisations of debt backed by single assets or a portfolio of assets, often termed Commercial Mortgage Backed Securities (CMBS). Often this debt will be rated by independent agencies; most will be investment grade though some may be higher risk.
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Figure 5: Pricing for four public CMBS transactions closing in Q2 2018
Source: CBRE
FROSN-2018 DAC Taurus 2018-1 IT CMBS
Ribbon Finance 2018
KantoorFinance 2018
A B C D E F G
12 | AUGUST 2018 © CBRE LIMITED 2018 FOUR QUADRANTS | 13
PRIVATE DEBT
PRIVATEDEBT
At the end of H1 2018, there is still no let-up in the strength of demand for providing Private Debt across Europe. New debt funds continue to announce themselves on a seemingly weekly basis (in some cases, such as France, aided by regulatory changes relaxing the rules around non-bank lenders originating loans). Private equity houses are increasingly being drawn to performing loan book sales, rather than focusing on just the NPL market. Banks, while also seeking new lending opportunities, are having to defend their existing relationships at refinance from new entrants seeking to compete on price. And, especially in the UK, we are seeing evidence of traditional equity investors “crossing the quadrants” and issuing debt on deals where they cannot compete on acquisition price.
Given the above, it is clear to us that the resurgence of the CMBS market is a symptom of this abundance of interest, reflecting as it does an overflow of capital from the Private Debt quadrant, rather than a shortage; investors are eager to access real estate debt and
are increasingly prepared to be open-minded about the route taken to do so.
Despite the fervour to deploy capital, generally lenders are remaining disciplined on leverage – as, it must be said, are borrowers. Where competition is manifesting itself is on pricing and terms, which are moving in borrowers’ favour. At the super-prime end of the capital city office senior lending market in the four major European economies, margins below 1% are not exactly common, but equally they are no longer surprising. Similarly, in the next tier of seven Western European markets, five saw margins tighten over the first half of the year, according to the CBRE Debt Map.
A trend to watch over the second half of the year will be the increasing desire of banks to take out forms of what are effectively “first-loss insurance”. We saw a number of instances of this in the UK in 2017, employing a variety of structures, including CMBS, which ultimate purpose was to protect lenders from the initial impact of default. While seemingly expensive
at first glance – premia can typically be high single digits – such insurance can help reducing regulatory capital by improving Slotting treatment, and thus increase key measures such as Return on Risk Weighted Assets. With Basel IV likely to have similarities with Slotting, this type of product could soon be as common on the continent as it is in the UK.
The “Private Debt” Quadrant consists of lending to real estate investment that is not done via a public exchange. Usually, this will relate to lending by a bank or a fund. Because it is private, achieving transparency of even basic pricing terms, and hence performance over time, has historically been challenging.
THE RESURGENCE OF THE CMBS MARKET IS A SYMPTOM OF THIS ABUNDANCE OF INTEREST, REFLECTING AS IT DOES AN OVERFLOW OF CAPITAL FROM THE PRIVATE DEBT QUADRANT, RATHER THAN A SHORTAGE.
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Figure 6: Downward pressure on private debt margins
Mar
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Q1 2018Q4 2017 Q2 2018
Source: CBRE
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cbre.co.uk/capitaladvisors
Anthony MartinExecutive Director Investment Advisoryt: +44 20 7182 2466e: [email protected]
Graham BarnesExecutive Director Corporate Financet: +44 20 7182 2516 e: [email protected]
Paul RobinsonExecutive Director Alternative Investmentt: +44 20 7182 2740e: [email protected]
Mark EvansExecutive DirectorHead of EMEA Equity PlacementT: +44 20 7182 2964E: [email protected]
Paul Coates Executive Director Head of Debt and Structured Finance T: 02071828050E: [email protected]
Dominic SmithSenior Director Research t: +44 20 7182 2369e: [email protected]
For more information regarding this report please contact:
contacts
This report was prepared by CBRE Capital Advisors and the CBRE Global Research Team.
CBRE CAPITAL ADVISORS CBRE’s Capital Advisors team provides independent and industry-leading capital markets advice, backed by our unrivalled financial expertise and global real asset insight. We work closely with clients who are looking for the focus, discipline and reach of a global corporate finance firm, combined with the real asset sector knowledge of the world’s leading commercial property company. Our experts comprise experienced financing professionals who match client needs with investment strategies across specialist sectors and geographies, using a variety of capital structures. The EMEA team works seamlessly with the CBRE network globally to provide clients with best-in-class advice and execution.
GLOBAL RESEARCH AND CONSULTINGCBRE EMEA Research Team forms part of CBRE Global Research and Consulting, a network of pre-eminent researchers and consultants who collaborate to provide real estate market research, econometric forecasting and consulting solutions to real estate investors and occupiers around the globe.
To learn more about CBRE Research, or to access additional research reports, please visit the Global Research Gateway at: cbre.com/researchgateway
DISCLAIMER 2018CBRE Limited confirms that information contained herein, including projections, has been obtained from sources believed to be reliable. While we do not doubt their accuracy, we have not verified them and make no guarantee, warranty or representation about them. It is your responsibility to confirm independently their accuracy and completeness. This information is presented exclusively for use by CBRE clients and professionals and all rights to the material are reserved and cannot be reproduced without prior written permission of the CBRE Global Chief Economist.