What billionaires’ love affair with real estate can teach us

There was a widespread consensus that the real estate market was late cycle by the fourth quarter of 2019 and that a correction seemed inevitable. In a highly liquid, prolonged low-interest-rate environment, what geopolitical or environmental black swan event would reset the market?

The black swan − the surprise event that turned everything on its head − was, of course, Covid-19. In the months that have followed, the pandemic has created a storm and disrupted almost every aspect of our lives, globally.

How has Covid-19 affected real estate?

The pandemic has created severe cash flow pressures for some sectors such as hospitality and leisure that had previously been viable. It has also accelerated trends that we were seeing pre-Covid-19: the growing demand for logistics and last mile distribution assets at the expense of physical retail; a dramatic increase in flexible working and the potential structural impact on office markets. Moreover, the rise of ESG, investing with a social and environmental purpose, has emerged as a new order.

And the effects on real estate? Investments in the residential rental and logistics sectors have demonstrated their defensive qualities and are keenly contested, while classic sectors such as office or retail have seen low levels of rent collection and have underperformed.

New opportunities come with new risks

The new landscape creates both challenges and opportunities for private investors. Given the need for operating platforms and the scale necessary to maximise income and reduce operating costs, residential rental and logistics investments present significant barriers to entry. Many private investors may hold retail and/or office investments, some of which may need money spent on them to reconfigure or repurpose over the medium term. This may be why we’re increasingly seeing private investors join forces, using co-investment to pool both expertise and capital.

For commercial real estate to continue to act as a preserver of wealth in these uncertain times, investors will need to consider many factors: the macroeconomic environment and structural headwinds, the specifics of the submarket, and the quality of tenants. Covid-19 has raised some crucial questions that have to be addressed: What’s the outlook for the hospitality and leisure sector? What will the future supply/demand dynamic for offices be? Is the potential long-term impact of flexible working overstated, or does the sector need a fundamental reassessment?

Align your real estate portfolio with your strategy

Ultimately, however, investing in real estate isn’t just about assessing the strengths and weaknesses of different sectors. It’s also crucial to align your real estate portfolio with your wider strategy.

When we support clients with real estate, our starting point is to understand some key questions: What proportion of wealth is allocated to property? What role do you see real estate playing as part of a balanced portfolio: wealth preservation or growth? What is your appetite for risk? What is your cost of capital, and how do you benchmark performance?

Once you’ve answered questions like this, there’s no shortage of opportunities for implementing your real estate strategy in the current market. But things don’t stand still. Covid-19 has triggered fascinating developments with implications for the property market (for example widespread working from home), but there’s no guarantee they’ll go on forever. As we saw at the beginning of this post, billionaires keep a constant eye on the value of their properties and review their strategy regularly to maximise their return on investment. It pays to follow their example.