When international investors look to real estate, the question is not if but when they will come to London. The UK capital’s stability, transparency and liquidity have made it a magnet for money – private, institutional or sovereign – from across the world.
During 2013, foreign buyers made up 69% of investment in central London commercial property, according to BNP Paribas. London agents continued to entertain an array of investors from every continent, with established sources of capital competing with newer ones, predominantly from the Far and Middle East.
So where is the next wave of investment coming from? Ultra-high-net-worth individuals can hail from anywhere, but the greatest concentrations of wealth tend to be where there is either a lot of resources, as with the oil riches of the Middle East and Central Asia, or a lot of people – the pension savings of the growing middle classes in China, Malaysia and Korea. In both cases, governments and institutions use overseas investment as a way of preserving and expanding the wealth for future generations.
Sovereign wealth funds may have very different objectives and investment strategies, but they tend to be outward looking by their very nature, says Michael Haddock, senior director of EMEA research and consulting at CBRE.
Haddock says: “Sovereign wealth funds are not a place to park money for the short term.
“They are for long-term investment, and they must invest the majority of their capital outside their home market to avoid creating an asset bubble. Many start off completely invested in bonds, but they need to start doing other things as well – London real estate comes pretty high on the list.”
Sovereign wealth funds now control more than $5tn (£3tn), with an average real estate allocation of 7.9% according to Preqin. But they are dwarfed by pension funds – the OECD estimated their global assets were $32tn at the end of 2011. They are also taking an increasingly international view, first to bonds and equities, but increasingly to their real estate exposure, says Haddock.
The biggest pension funds are concentrated in developed countries with a large middle-class, middle-aged population saving for retirement – at the moment, the US has by far the largest, followed by Japan. But demographic trends hold the promise of so far untapped sources of vast wealth, when the still-growing populations of the vast BRIC and MINT countries reach middle age.
“Turkey does not have very large institutions at the moment but it does have a population bulge and a rapidly growing middle class,” says Haddock.
“In 15 or 20 years, you would expect savings rates to be increasing rapidly.”
But the country that stands out most by this reasoning is India, with more than one-sixth of the world’s population. The population is only expected to peak in 2065, but there is already a large and rapidly growing middle-income group with the capacity to save. This is, however, very much a longer-term play – one to watch for MIPIM 2034.
So, where are the places to keep an eye on in the meantime?
EG investigates the options.
Taiwan
GDP $474.1bn, growth of 1.3%
Why?
Last May, the Taiwanese government relaxed rules on insurers’ investments to allow them to buy foreign real estate for the first time. Taiwan’s insurance companies control more than $450bn, and their trade body has estimated that they could have more than $10bn to spend on property overseas. Taiwan’s Financial Supervisory Commission suggested six cities for insurers to target – New York, London, Toronto, Frankfurt, Shanghai, and Ho Chi Minh City – and over the last year, institutions such as Cathay Life, Fubon Life, Shin Kong Life, and Nan Shan Life have been doing their homework. “They will almost certainly buy in the UK, probably in London, sometime during 2014,” says David Green-Morgan, director of global capital markets research for JLL in Singapore, who is advising one group on opportunities. “Most of them have come to the conclusion that it is better to go to the big, liquid markets, and London is the biggest and most liquid market in the world.”
Potential pitfalls
Total overseas investments remain limited to 10% of equity, but with money continuing to flow into Taiwan’s funds, the problem won’t be a shortage of money. The biggest stumbling block is likely to be time, because each deal must be scrutinised not only by investors’ internal committees but by the regulator. “That will obviously take time, and London is not a market where you can hang around,” says Green-Morgan. “That is something that may hamstring them in the short term.”
What will they buy?
Very core assets, which means timing will be even more important. The Taiwanese will be competing with institutions from Korea, Canada, the US, and Germany for central London office buildings with good tenants on long leases of 10-15 years. Green-Morgan says they have been looking at lot sizes of £100m-£400m.
Window of opportunity: 0-2 years
Kazakhstan
GDP $203.5bn, growth 5%
Why?
With significant mineral resources and massive sovereign wealth, this central Asian market holds great, as yet unexplored, potential for foreign real estate. Kazakhstan has three sovereign wealth funds, worth a total of $166.4bn. According to Preqin, which tracks sovereign wealth investments, Samruk-Kazyna currently invests only in domestic real estate directly and the Kazakhstan National Fund does not have any real estate investments. The country’s National Investment Corporation is yet to invest in real estate, but is considering doing so. “It would be likely to invest in private real-estate funds, with a global focus,” says Andrew Moylan, Preqin’s head of real assets products.
The closest comparison might be with neighbouring Azerbaijan, which kicked off a £1bn investment plan for European property in London in December 2012, and is now a well-established presence. The State Oil Fund of Azerbaijan made its first direct real estate investment in the West End, paying £177m for 78 St James’s Street, SW1, purchased through an intermediary.
Resources tend to be concentrated in the hands of an elite in the former Soviet states, and London property is also an appealing target for ultra-high-net-worth individuals seeking to diversify their portfolios.
Potential pitfalls
There are fears that the relative political stability that Kazakhstan has enjoyed in recent decades will be threatened by the struggle to succeed 73-year-old president Nursultan Nazarbayev, who has been in power since 1991. A report by think tank the International Crisis Group last September highlighted a growing divide between rich and poor and an increasing tide of radicalisation, which has led to a spate of terrorist attacks. Kazakhstan’s outward appearance of great wealth hides, it warned, “a multitude of challenges”.
What will they buy?
As with other sovereign wealth funds, they will probably progress from indirect investments into safe core assets. But the behaviour of sovereign wealth funds is not always easy to predict, because they may not have a clear-cut investment strategy themselves. “They may see an opportunity and bid very aggressively, and then you may not hear from them again for six months,” says Green-Morgan.
Window of opportunity: 1-3 years
Nigeria
GDP $262.6bn, growth 6.5%
Why?
Africa’s largest oil producer recently set up a sovereign wealth fund, and it has a real-estate allocation already. Established in 2011, it is still very early days for the Nigerian Sovereign Investment Authority, and it is still very small, with just $1bn. But the government has declared its intention to increase the fund up to $5bn in the “medium term” – which would put it on a par with the fund of Angola, already active in London.
The Future Generations Fund, which currently holds $325m, is one of three managed by the Nigerian Sovereign Investment Authority, and it is intended to hold a diversified portfolio for the long term to bring a steady income when the country’s fossil-fuel reserves are exhausted. It may invest up to 15% in hard assets such as real estate, and the NSIA has targeted returns of 4% above US inflation. At the moment, it is not big enough to make waves in London but, if and when the fund does grow, it would be one to watch.
Potential pitfalls
Nigeria’s oil production was far below expectations in 2013, which will hit allocations to the sovereign wealth fund. The IMF had predicted that accumulated oil revenues in the excess crude account would rise from $10bn to $18bn by the end of the year, but they halved instead after oil production dropped dramatically due to theft and technical problems.
There is also political opposition to the fund from state governors, who would rather spend oil revenues locally today than save them for the future, and a general election looming in 2015.
But Peter Welborn, partner at Knight Frank and head of its Africa business, foresees “great opportunities” ahead. Wealthy Nigerian individuals already own a significant amount of residential property in London, he points out, and while Nigeria’s own property market is growing, institutional investors will seek the security and guaranteed, if lower, returns that a developed market such as London can offer. They will also be looking for solid advice. “The Nigerians we advise value honesty and straightforwardness. They won’t necessarily become involved in a hands-on way, as they would in their own country, they want their advisers to guide them.” This will be even more the case for the country’s institutions.
What will they buy?
As is typical for sovereign wealth funds, they will begin with indirect investments, before moving on to “plain vanilla” prime commercial buildings in London, and a bit later, retail and office developments in solid second-tier cities such as Birmingham, says Welbourn.
Window of opportunity: 3-5 years
Brazil
GDP $2.3tn, growth 0.9%*
Why?
Brazil’s billionaires are already in the UK and its corporations are starting to look abroad too – though that is nothing compared to its longer-term potential.
The country’s growth may have slowed in comparison to the other BRICs, but it continues to attract more foreign direct investment than anywhere else in the world, bar China and the US. Brazil also has substantial international reserves, a fast-growing middle class and considerable mineral wealth, which means the combined might of its institutions and sovereign wealth could take the world by storm once investment starts flowing the other way.
It’s already starting to happen, says Andrew Haynes, partner at law firm Norton Rose Fulbright, which has just established a Brazilian office, partly to cater for companies looking overseas. “Brazil’s outward investment activity has grown enormously in recent years, as it has achieved investment-grade status and the cost of capital for Brazilian corporates has fallen,” he says. “This has allowed Brazilian industry to undertake dramatic overseas expansion worth at least tens of billions of dollars.” Key areas of expansion include financial services, oil and gas, construction, agribusiness, mining, aircraft manufacturing, and consumer goods, across Latin America and in the US, Canada, Africa, and Asia.
Potential pitfalls
Brazil has underperformed expectations in recent years, but its place among the BRICs looks secure. It has recently been through a period of currency instability, though this tends to prompt high-net-worth individuals to diversify their assets overseas.
JLL now has a local team member dedicated to the export of capital from Brazil, which now consists mainly of private wealth from Brazil’s growing number of high net worth individuals. “There is wealth that is wanting to come abroad right now,” says Matthew Richards, director of the international capital markets group at JLL, pointing to banking billionaire Moise Safra’s purchase of the City’s Plantation Place for £470m in May 2012. “There’s going to be much more of that sort of investment. It’s a very live source of cash.”
Private wealth accounted for 95% of investment into London from Latin America over the past two years, notes Haddock, but only 8% was private wealth from Asia, where institutional investors dominate. But this is 95% of a much smaller pot: just £800m, compared to £15bn. As for Brazil’s own pension funds, that’s still some way off. “Brazil has only just reached the stage where its birth rate is slowing, so it will be some time before it reaches the peak years for external investment,” says Haddock.
What will they buy?
One-off private investments are hard to predict, too early to say for the rest.
Window of opportunity: a steady trickle now, a tidal wave in 5-10 years
Iran
GDP $514.1bn in 2011, growth of 1.8% in 2009*
Why?
Relations between this oil-rich pariah state and the West have thawed considerably since George W Bush described it as part of an “axis of evil” in 2002.
Last November, talks in Geneva between the US and Iran resulted in a preliminary deal that would ensure Iran’s controversial nuclear programme remains a civilian one and normalise its relationship with the rest of the world – an outcome that would have been unthinkable even a couple of years before.
Negotiations continue, with strong political will on both sides to reach an agreement. “As far as we can see there’s a good prospect of these negotiations succeeding by July, or perhaps a month or so later,” says Alison Baily, senior analyst, Middle East, at Oxford Analytica. “If they do, the prize is likely to be the lifting of sanctions on Iran’s financial sector and Central Bank, which shut it out of the financial system, and on the oil sector, which prevent it from selling to the world and have a very damaging effect on its foreign revenues. We won’t see the wholesale lifting of all sanctions on Iran, but we will certainly see enough to reintegrate it into the world economy.”
Iran has enormous potential as an investor, with around 10% of the world’s proven oil reserves, but it will not happen overnight. The immediate focus for its leadership would be on ramping up oil production and luring foreign investment into the country, to repair the damage to its economy caused by decades of sanctions. Overseas investment would come only later, once it had built up a decent surplus.
If the current direction of travel continues, Iran may eventually be in a similar position to existing sovereign wealth-rich states. “It’s a nation with large resources and a large population, where the majority of its wealth is generated from resources with a finite life, so it will be looking for diversification,” says Baily. “London real estate is seen by the majority of sovereign investors as the obvious and most secure place.”
Potential pitfalls
While the negotiations appear to be on track, there are still a few sticking points. In particular, President Barack Obama will have to juggle the goal of stabilising the Middle East with the demands of a powerful anti-Iran lobby at home. For this reason, relations with Europe and Asia will normalise more quickly than those with the US.
What will they buy?
Let’s not get ahead of ourselves.
Window of opportunity: 5-10 years
* according to the latest World Bank data
