Investors should expect lower returns from their real estate portfolios and, at this late hour in the real estate cycle, should concentrate on defensive investments and portfolio diversification in 2017.
“We had a great run for the last five years in real estate, which recovered very well since the downturn,” said Allison Yager, a partner and global leader of real estate in the Atlanta office of Mercer's investments business.
“We're seeing a few indications that things are slowing down,” including less U.S. institutional investor capital flowing into core real estate, Ms. Yager said. “We are still seeing strong appetite from non-domestic investors, but they always take longer to invest.”
Returns will decline in 2017 for core stabilized properties as appreciation slows, she said.
The easing of capital into core real estate started earlier in 2016 as equity market volatility pushed investors to or over their target real estate allocations, she said. Hitting that ceiling meant less money to invest in real estate, so in some cases investors began withdrawing funds from open-end core funds.
All but the biggest name-brand real estate managers will have difficulty raising capital for core and core-plus strategies next year, she said: “There's not enough capital to support core and core-plus strategies unless (the manager has a) good brand.”
The bumpy fundraising market in 2017 will be the result of a combination of that slowdown in capital and expected political and economic changes.
“A lot of people will be on the sidelines to see what happens to the economy” in light of the U.S. election, Ms. Yager said.
David Paine, head of real estate in the Edinburgh office of money manager Standard Life Investments, said the main word for 2017 is “caution” in light of the nationalist votes in the U.K and U.S., and elections scheduled in various European countries.
“There are things that have happened and the prospect of others coming down the line that would have a material impact on strategies,” Mr. Paine said.
These events will tilt all investments in different directions depending on how these elections play out. This environment requires a higher degree of care in making real estate investment decisions, he said.
“Clearly real estate is cyclical anyway and different parts of the world are in different points of the real estate cycle,” Mr. Paine said.
Real estate in the U.S. has been offering good returns and should continue providing moderate returns, which is attractive relative to other countries around the globe, he said.
As for the United Kingdom, even before June's referendum to leave the European Union, the country was at the tail end of its real estate cycle, Mr. Paine said. “Returns are already moderating quite significantly and now there is uncertainty about the underlying economic drivers that will persist for a long time,” he noted. This makes the U.K. less attractive for real estate investment than other global markets.
Real estate across the Continent is performing well because the real estate market in Europe is lagging the U.K.
“There is a lot of money looking to find a home in continental Europe and there are attractive opportunities to be had,” he said.
The view for the Asia-Pacific region is more polarized, Mr. Paine said. Some markets such as Australia are doing relatively well, while Hong Kong and other areas in China are looking fairly weak.
Overall, investors will be more cautious in 2017, he said, and thus less interested in development.
“The bulk of investment volume will come from investors fundamentally drawn to the asset class because it offers attractive yield compared to bonds,” Mr. Paine said.
“Our investors are looking for us to dial down risk,” he said. “That could take the form of core real estate, which is keenly priced at the moment. People will be looking for a broader basket of assets with quality income for a long period of time. There are fewer of those opportunities than we might have seen a couple of years ago.”