Preparing for the post COVID recovery in Real Estate
COVID-19 was a black swan nobody saw coming, throwing even the mainstays of real estate into unchartered waters. Now, we are set for another game-changing 12 months – but in many ways, we’re working in familiar territory.
Last year, the real estate market found itself in an almost unfathomable situation. For over 100 years, Australia hasn’t known a public health emergency so intense, that people were kept away from their offices, shopping centres, and each other.
Albeit well-contained in Australia, the pandemic is still a live issue, and its impacts will continue to be a major challenge to manage in 2021. However, as the dust settles on 2020, it’s clear that many of the challenges we’re facing are an accentuation of existing trends and forces. For us, a deep understanding of those long-term movements will be key to identifying opportunity and minimising downside for the year ahead.
ESG is key
As a lens to any real estate investment, ESG is critical, and had begun transforming industries well before COVID-19. AMP Capital launched our 2030 Real Estate Sustainability Strategy last year, in recognition that long-term sustainable outcomes across the real estate assets we manage, the supply chains we work with and the communities we operate in are increasingly non-negotiable.
Prior to 2020, ESG had become a business megatrend, and importantly, one that is recognised and treated as a dominant global economic risk. After a year where we’ve been trained to be constantly conscious of our surroundings and our health, we can only expect this will continue on a skywards trajectory.
As such, we see that ESG principles will remain crucial to underlying earnings and the stability of cash flow. In particular, we think that wellness in all its forms will be important across the sectors, with implications extending to workplace design and retail tenant mix.
New heights for the resilient logistics market
In our view, the undoubted winner of 2020 was the logistics market. This market was already being driven by e-commerce and has been accelerated by the requisites of lockdown.
For example, this year we’ve needed to store more medical supplies and rely more heavily on online shopping.
Importantly for life beyond COVID-19, it’s not just e-commerce or the pandemic which is underpinning the success of the logistics market. Companies across a number of industries have long been pursuing greater automation, preferencing a more efficient asset located in proximity to their customer base, which can meet escalating demands for shorter delivery times. Also, sudden events (like a pandemic) which disrupt supply can lead to permanent changes in inventory practices, translating to greater demands for space. Effectively, suppliers may consider housing additional stock, in an effort to maintain continuity.
Looking ahead, from a pricing point of view there is an enormous amount of capital chasing logistics globally, particularly in safer markets like Australia. For instance, domestically we have lower volatility relative to global counterparts, and our view is that prices could be driven to record highs to match demand.
Offices in the 2020s
Undoubtedly, the impact of COVID-19 on the office market has been significant. Capital cities like Brisbane and Perth have held up relatively well so far, but markets like Sydney and Melbourne – home to the majority of COVID-19 cases this year – have felt the heat. However, we anticipate global investor appetite for these markets to remain strong, as they typically recover sooner from downturns relative to the smaller office markets.
As restrictions ease and the full impact of the pandemic evolves, businesses will be reconsidering their organisational structures and ways of working. ‘Health security’ will be top of mind amongst employers, as they seek to rebuild their team cultures and enhance collaboration in their workplaces. With that in mind, in many ways the pandemic has amplified existing demands of a modern workplace, one which is in line with ESG principles and supportive of ever-popular and now expected flexible working arrangements. In our view, more than ever, commercial landlords will need to come to the table with design and functionality which supports those expectations.
There are a few other key considerations on our radar in the office market, not least of which are the demands of space beyond this year. For example, there is not a one-for-one relationship between office space and flexible working. That is, an increase in flexibility of 20% for the workforce does not directly translate to a decrease of 20% of occupied space. There are a few reasons for this, such as enforceable regulations around people permitted per square metre. In short, commercial landlords will need to work closely with their tenants and be flexible and sensitive to their requirements in a post-pandemic world.
There are a few other key considerations on our radar in the office market, not least of which are the demands of space beyond this year. For example, there is not a one-for-one relationship between office space and flexible working. That is, an increase in flexibility of 20% for the workforce does not directly translate to a decrease of 20% of occupied space.”
– Kylie O’Connor
Retail evolution gathering pace
In a year where reduced foot traffic was effectively a government mandate, the retail sector took a significant hit, with sales across most categories falling. However, as those restrictions are eased, we think the market will be dealing with the familiar pre-pandemic changes as challenges, as opposed to an entirely new set of expectations. Global changes in consumer behaviour, household economics and the emergence of increased competition from online commerce are driving performance changes to bricks and mortar retail. These have been accelerated by COVID-19, but they are known to asset managers in the market.
Compared to other developed markets, Australia is well placed to defend asset valuations, due to constrained supply against a historic backdrop of robust population growth, prior to our borders being temporarily closed. However, we also believe asset owners and managers will need to adapt to find new opportunities against this backdrop.
The goal for investors in retail assets is typically low volatility and stable long-term income from a diversified pool of tenants. This formula has not changed. However, with significantly more structural than cyclical factors influencing returns at this point in the cycle, the outlook appears less certain than in previous cycles. This uncertainty may present opportunities, as pockets of pricing become dislocated from fundamentals which, compounded by low interest rates, makes yields on well-positioned assets more attractive.
Thinking for the long term
2020 was a radical year for the global economy and barely an investment market has remained unaffected. However, closer inspection of these impacts actually reveals a path well-trodden: real estate is a long-term investment, shaped and decided by long-term trends. We can’t downplay the impact of 2020, but for AMP Capital Real Estate, recovery lies in sticking to that tried-and-tested truth.
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Important Notes
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While every care has been taken in the preparation of these articles, AMP Capital Investors Limited (ABN 59 001 777 591, AFSL 232497) makes no representation or warranty as to the accuracy or completeness of any statement in them including, without limitation, any forecasts. Past performance is not a reliable indicator of future performance. Performance goals are merely goals. There is no guarantee that the strategy will achieve that level of performance. The information in this document contains statements that are the author’s beliefs and/or opinions. Any beliefs and/or opinions shared are as at the date shown and are subject to change without notice. These articles have been prepared for the purpose of providing general information, without taking account of any particular investor’s objectives, financial situation or needs. They should not be construed as investment advice or investment recommendations. An investor should, before making any investment decisions, consider the appropriateness of the information in this document, and seek professional advice, having regard to the investor’s objectives, financial situation and needs. This document is solely for the use of the party to whom it is provided and must not be provided to any other person or entity without the express written consent of AMP Capital.