Originally published November 2020.
When 2020 dawned, no one could have fathomed what eventually would envelop the world and define how history will remember it for future generations – the covid-19 pandemic. As we near the end of a tumultuous year, market watchers will no doubt look back and take stock of the impact the event has wrought.
Flattening the curve has certainly exerted a heavy economic toll, with some of the world’s most resilient economies – Australia, Indonesia – experiencing their first recession in over 20 years. While some of the initial effects were overestimated, world GDP is expected to experience its worst contraction since the Second World War. The pandemic also rippled through large swaths of economies including real estate, which are the primary assets of REITs.
Let us see how REITs in the region have weathered the crisis. The GPR/APREA Composite Index, which tracks total returns, bottomed in March, down over 25% from its peak just two months earlier. Since then, the index has gained close to 10%. While it still trails the performance of equities as tracked by the MSCI AC Asia Pacific Index, rebounding by over 20% due to the inclusion of popular tech stocks, the longer-term metrics remain in favour of REITs.
Even as volatility has notably spiked, such bouts of gyrations are a phenomenon observed in financial markets during periods of uncertainty. This will no doubt revert to its mean in the longer term as, in this regard, returns for REITs are supported by their stable dividend payouts.
With REIT valuations expected to continually benefit from widening spreads as a result of stimulus measures, the recovery still has legs. REITs’ income streams retain high visibility and remain backed by real estate that continues to gain from the region’s economic ascent. Their relevance to an investment portfolio has become particularly exigent recently.
Hit by lockdowns and sluggish economic activity, governments in the region have responded by scaling back contribution requirements to pension funds. This will inevitably impact the region’s pension systems, raising concerns on the prospects of funding retirement for a rapidly ageing population.
In this year’s Mercer CFA Institute Global Pension Index, the study noted that resulting lower returns from the recession will impact the long-term sustainability of pension systems. The relevance of REITs now and post pandemic can take on added significance in plugging this gap between lower returns and financing retirement payouts.
The average yield offered by Asia-Pacific REITs, at over 4%, accords a healthy spread against bond rates in excess of 250bps currently, which will be maintained in a lower-for-longer environment. REITs offer a good balance on the risk-return spectrum and are viable alternatives for pension funds to increase allocations and diversify their asset base.
Governments are also leveraging on some of the changes that REITs can spark, whether in catalysing an economic revival from the pandemic, financing urbanisation in emerging economies, fulfilling stock markets’ aspirations or institutionalising real estate markets. Such REIT advantages will continue to attract supportive policies for the asset class.
Recently, REITs in the region have been observed to take advantage of softening markets by strengthening their portfolios, boosted in part by lower financing costs. REITs listed in Singapore, arguably the region’s most dynamic REIT market, have actively sought acquisitions, targeting yield accretive, well-located, high-quality acquisitions in key cities globally.
As the pandemic wanes, REITs, having seized this initiative, will be well poised to gain from the upswing. Moreover, since the last financial crisis, the region’s REIT markets have matured and evolved to be more than just offices and shopping centres. The emergence of REITs specialising in logistics and digital assets in the region, for instance, have allowed investors to diversify and ride the accelerated shift toward e-commerce, which has been so crucial in supporting returns for REIT investors. As the market continually broadens, the development of REITs in niche sectors, such as senior living and rental accommodation, will allow investors to play into a diverse set of trends.
When the pandemic erupted early in the year, the region’s REITs endured a huge sell-off as investors envisioned huge swaths of commercial properties standing empty. By far, this pessimism has been overplayed as offices will remain the default workplace. At that time, in an article posted on LinkedIn, I noted that a market rout is an opportunity to take stock and position, as the retreat in prices makes valuations for REITs look compelling. That view has not changed.