Much like the use of the word ‘unprecedented’, itself, the impact of the Covid-19 pandemic on the world around us and how we live was entirely unprecedented. The initial economic impact was stark, with the British economy shrinking a record 20.4% in the three months to June 2020, while the shift to remote working fundamentally altered our perception of how and where we do our jobs. Meanwhile, with the absence of social time spent with friends and visits to restaurants, festivals, weddings, live music and professional sports off the cards for much of 2020, we were not far into the year before the purchase of a 2020 diary seemed like a complete waste of money relative to the cost-per-use attractions of a Netflix subscription.
It was a period of upheaval and change for almost everyone in every sector of life – and commercial real estate was no exception. We spent significantly more time at home, much less time in the office, and almost no time inside hospitality or retail venues. In fact, data from Springboard indicated that the gap in footfall in central London in 2021, compared to 2019, was as much as 53.2%, while global revenue from the travel and tourism industry decreased by well over 20%, according to Statista. Perhaps most tellingly for those who previously spent their working days in and around London, and for whom the sight of a white and maroon paper bag from Pret A Manger was no stranger, sales for the sandwich chain in the City of London were only at 39% of their pre-Covid level by May 2021, according to the Pret Index – a data tracker established by the business and Bloomberg Businessweek to measure the UK’s economic recovery based on weekly sales figures.
However, in spite of this change in user patterns, the appetite of institutional investors for real estate stayed relatively stable. The annual Investment Intentions Survey by INREV, ANREV and PREA explores the aspirations for investment into the real estate sector over the following two years and, in January 2021, it showed that investment plans were largely unaffected by the Covid-19 pandemic, with €64.6 billion expected as the minimum amount to be invested globally in 2021.
In many respects, the predicted doom and gloom seems, in fact, to have passed us by. Headlines warned us of the imminent end of the office, with high-profile businesses like Deloitte and Facebook declaring that workers could work from home indefinitely. The impact of Brexit – the break between the UK and Europe finally coming to pass four and half years after the referendum – was touted as the next potential horror, with general bad economic tidings following hot on its heels. But it is clear that institutional investors like real estate as an asset class, in spite of challenging market conditions.
While smaller investors sometimes stick to investing in equities and bonds, larger investors have long been attracted to real estate as an asset class because it provides portfolio diversification, thanks to its low correlation to other assets. Furthermore, it offers an appealing income and yield opportunity and, over the last few decades, investors have slowly increased their allocations to the sector. For example, the average target allocation for U.S. pension funds is approximately 9%.
Indeed, I would be tempted to go as far as to say that investors often choose real estate because of those challenging market conditions. Real estate values are generally tied to GDP — when the economy grows, demand for real estate tends to follow. Property, whilst not a true inflation hedge, does provide cash flows with index-linked attributes and a degree of inflation protection – helping to preserve wealth. In addition, we cannot underestimate how important it is that real estate is a physical thing, unlike stocks and bonds. The fact that we are talking about a tangible asset adds stability, as it will always hold some value even in tougher market conditions, as opposed to some financial assets for which values can dwindle down to zero or, in some cases, negative value.
Importantly, while memories of the GFC are often heavily tied to images of a mortgage crisis and a collapse in values – the IPD index for UK commercial property dropped a shocking 22.1% in 2008 – real estate remains attractive to institutional investors. Despite these figures and its illiquid nature, unlisted real estate was still found to be resilient and, according to ING Real Estate Investment Management, it outperformed every other major investment asset class, with the exception of bonds, in the financial crisis. Just as crucially, much has changed in the intervening years. Institutional investors have become more demanding of their real estate investment managers, with a greater focus on due diligence and nothing like the over-leveraging that led to the crisis in 2008.
However, the inclinations for and allocations to real estate that have remained robust over the Covid-19 pandemic does not mean that investors have a blind appetite for the built environment. It is important to acknowledge the changes brought about by the pandemic – some will leave an impression on user patterns, others will fundamentally alter our behaviour and how we use buildings, and a handful will be a distant memory before long – as well as the broader trends that are changing government policy and the way we do business and the spectre of inflation.
It is impossible not to talk about sustainability and decarbonization here – real estate has one of the highest carbon footprints going, contributing 30% of global annual greenhouse gas (GHG) emissions and consuming around 40% of the world’s energy, according to the UN Environmental Programme.
Looking ahead, the demand for ‘green’ sustainable buildings is only going to strengthen and will increasingly become a cornerstone of the decision-making process for investors. Not only has INREV developed sustainability guidelines, but there was increased participation in the 2020 GRESB real estate assessment – the investor-driven global ESG benchmark and reporting framework for listed property companies, private property funds, developers and investors that invest directly in real estate. Once upon a time, the perception was that sustainability and ESG were just ‘nice to haves’. Today, that idea is long gone and frameworks for implementing and understanding appropriate measures have become increasingly formalised and widely adopted. Tellingly, a 2020 industry survey by the law firm, CMS, proved that 92% of investors said they will invest more into companies with a strong ESG strategy following the pandemic, while 62% of occupiers agreed that corporate social purpose has become more important in the last year and a half.