Asia-Pacific: APAC finds its core values

The concept of investing in core assets in Asia-Pacific is gaining traction, although so far much of the focus has been on Australia, writes Florence Chong

Real estate investment in the Asia-Pacific region has finally come of age. Global investors are now content to invest there in open-end core funds for the long term.

Investing in Asia-Pacific real estate is not new. Global investors have long chased Asia’s economic growth story. But a shift in mindset – from short-term opportunism to long-term strategy – is a relatively new phenomenon.

For the best part of a decade, PGIM Real Estate’s pan-regional retail fund and M&G Asia Property Fund have been the two vehicles that could best fit the description of open-end core funds in Asia. They have stood out against a myriad of closed-end, value-add and opportunistic funds.

If there was an identifiable market turning point, it was probably in 2014, when a new generation of Asia core open-ended funds came into being, led by US manager Invesco Real Estate. Invesco’s pan-Asia fund manages about US$1.5bn (€1.37bn) in assets in key markets, including Australia, South Korea and Japan.

Invesco was followed in quick succession by Morgan Stanley and JP Morgan, which launched their own Asian core products.

US managers are prevented by regulations from talking publicly about specific funds, but industry sources say that Morgan Stanley’s fund stood at around US$650m at the end of last year, while the JP Morgan fund was at about US$500m.

IPE Real Estate understands that Deutsche Asset Management is currently marketing a core fund in Asia, hoping to raise upwards of US$350m. The manager declined to comment.

Meanwhile, Savills Investment Management (Savills IM) is on track to launch a pan-Asia core-plus fund. Chief executive Justin O’Connor says the plan is to raise between US$300m and US$500m to acquire assets with a gross value of around US$1bn. 

Regional fund managers have upgraded their offerings to include core products. The Singapore-based SC Capital has, so far, raised US$310m for its first core fund, known as SCORE (SC Capital Asia Core Fund). SCORE is expected to close this year at more than US$500m. The Hong Kong-based PAG last year raised US$1.3bn for its first pan-Asia core-plus fund, exceeding its initial target of US$1bn.

The trend shows an emerging consensus among the world’s most successful fund managers that Asian real estate has matured – and that prime assets in the region should be considered ‘core’.

From a diversification point of view, global investors can no longer overlook a region that is producing more core office towers, shopping centres and logistics facilities than any other market in the world. As Asia continues its growth trajectory, future global stock of core property will invariably come from mega cities dotted across the region.

Both M&G and PGIM Real Estate have shown that, with the right approach and active management, core assets in Asia are capable of delivering more than respectable returns.

PGIM first arrived in Asia in 1994. It now manages assets totalling US$5.8bn across Asia-Pacific, much of which is run through separate accounts for global investors. Benett Theseira, head of Asia-Pacific at PGIM Real Estate, is fond of saying: “Ultimately, investing in core assets in Asia is about investing in the future growth of Asia.”

Fund managers point out that China and Japan are the second and third-largest economies in the world, while Australia, Korea, Hong Kong and Singapore are each significant economies in their own right. “Asia is a higher growth region compared to other parts of the world,” says one head of Asia for a US fund manager, who asks not to be named.

The Singapore-based manager says: “Capital is better organised today in Asia, and the markets are more efficient. Some of the sovereign wealth funds, pension funds and financial institutions in this region are also growing in size. So it is a natural progression to create a strategy for Asia that is sufficiently mature.” 

The managers concur that investors are “warming” to core funds in Asia. “As the concept grows in scale, people will give it more attention. Investors and consultants are spending a lot more time on the sector,” says one manager.

This was borne out in the 2017 ANREV/INREV/APREA investment intentions survey, which found that 51% of the capital raised for Asia-Pacific in 2016 was dedicated to core funds, compared with 30% for opportunity and 20% for value-added funds. 

Amelie Delaunay, director of research and professional standards at ANREV, says core funds continue to attract a lot of investors in the region. Institutional investors indicate that they plan to invest up to US$10.3bn in Asian real estate in 2017, and that 40% of respondents view core investments as having the best risk-adjusted performance prospects in 2017 in Asia-Pacific.

Fund managers say they are seeing good support from global investors, who are starting to realise that the region offers good geographical diversification for their property portfolios. As an example, the California Public Employees’ Retirement System was a cornerstone investor in JP Morgan’s Asia core fund, committing US$250m.

New entrants are good for the industry and reinforce the thinking that Asia is now a core market place, says Ian Schilling, head of core funds and private accounts for Asia-Pacific at Invesco Real Estate.

While not prepared to confirm that it is planning to launch its own core fund, Victoria Sharpe, Deutsche Asset Management’s head of real estate Asia-Pacific, says: “I can confirm that a number of core open-end vehicles are being formed. Until now, a number of funds that offer Asia-Pacific assets were not really core.” 

Sharpe has been investing in core real estate in Asia since 2005. Today, Deutsche Asset Management is responsible for more than US$2.5bn in core assets in Asia for its investors – mostly German clients – through separate accounts. 

The current crop of managers bring with them – in many cases decades worth of – experience in running core funds, aiming to replicate their successful multi-billion-dollar core funds in the US.

Australia the first port of call

For core funds in Asia-Pacific, as a general rule of thumb, Australia and Japan each have a 30% weighting, with South Korea, Hong Kong and Singapore sharing the balance of fund allocations. In reality, however, pan-Asia core funds tend to have their exposure more heavily weighted towards Australia than to other regional markets.

Fund managers say it is not by design that their capital flows into Australia. It is of necessity, because Australian markets are deeper, more liquid and more transparent than other Asia-Pacific markets.

Schilling explains that the choice of investment destination in Asia-Pacific is very strategic, based upon relative risk-adjusted returns in the region.

The Morgan Stanley Asia core fund was seeded in May 2016 with Sydney’s AUD525m One Shelley Street office tower, home to Macquarie Bank.

JP Morgan’s pan-Asian fund began acquiring assets in Australia last year in quick succession, buying both a Melbourne office building and a Melbourne retail market for a total of AUD533m. 

Invesco Real Estate has acquired four Australian assets with a total value of AUD610m since launching its core strategy in 2014. Invesco has also purchased a number of assets in Japan and South Korea.

Although other managers of Asia core funds have also been striking deals in Japan, they describe it as “a more opaque market” dominated by domestic buyers. 

South Korea is increasingly a favoured market. Foreigners are now competing head-to-head with Korean buyers. 

South Korea has been a fertile hunting ground for some groups, such as M&G Real Estate, and PGIM. Others, like AEW, are said to be particularly active.

Because of the nature of the Japanese and South Korean markets, it is managers with the strongest local networks that have been most successful in clinching assets in off-market deals.

In comparison, Singapore and Hong Kong are tightly-held, and, in time, some managers are expected to look to first-tier Chinese cities, especially Shanghai and Beijing. 

Sharpe believes that, as core assets become more expensive, fund managers will need to be more flexible. While her preference is to buy core assets in, say, Tokyo, she may look to other cities like Osaka. But she will not go to regional Japanese cities that do not have solid core fundamentals in size, liquidity and transparency.  

Similarly, in Australia her focus is on Sydney and Melbourne. Only if there were a compelling asset would she go to Brisbane, and if office is too expensive, she may look at logistics.

Schilling says that, unquestionably, increased competition for assets in the region has seen cap rates decline in recent years.

“As a result, Asian cap rates are consistent with global trends – they are now at their lowest point in many Asian markets,” he says. 

“But I think we and our investors still see value in Asia because, compared with other regions of the world, the spread to bonds is reasonable. There is still a buffer – if bond rates start to rise.”