Investor Universe Japan: GPIF to lead the way

GPIF’s foray into global real estate will provide justification for other Japanese institutions to follow. But local partners will be key, writes Yukihiko Ito

For the real estate industry, 2016 is predicted to be a momentous year as market experts expect Japan’s largest public pension fund to invest in global real estate. Since the US$1.15trn (€1.02trn) Government Pension Investment Fund (GPIF) announced plans to move into alternative investments, government endeavours to unify pensions have resulted in the four largest pensions in Japan – dubbed the four pension ‘whales’ – having the same model portfolio.

Last year, the $176bn Pension Fund Association for Local Government Officials (Chikyoren) and the $65bn Federation of National Public Service Personnel Mutual Aid Service (KKR) issued requests for proposals for global and domestic real estate investments, respectively. The last public pension fund, the $35bn Mutual Aid Corporation for Private Schools of Japan, is expected to mirror the move.

The model portfolio allocates 5% to alternatives, and it is estimated that 1-3% will go towards real estate. The model portfolio was established to ensure long-term income. Pension funds are expected to invest in non-speculative, core strategies to reach their goal. However, considering Japan’s real estate market makes up roughly 10% of the global market, the four pension whales would be hard pushed to invest 2% of their portfolio or ¥3.4trn into the domestic core market. They will, no doubt, have to invest overseas.

Taking a closer look at the model portfolio, one can see 40% of the target allocation is overseas. It is unclear which asset class real estate will come under – equity or fixed income. Alternative investments will be sorted according to levels of risks. It should be noted that GPIF’s first infrastructure investment was considered fixed income.

Japanese investors, particularly pension funds and insurance companies, have been under increasing pressure to rethink their portfolios. Life insurance companies and pension funds are generally expected to make a return of roughly 2%. However, this is rather difficult with the average Japanese portfolio. 

GPIF, for example, had a target allocation of domestic fixed income at 67% until 2013. However, the returns in Japan are relatively low because government bond yields are currently at 0.3% and the Bank of Japan is still implementing quantitative easing. Internal conditions are proving unfavourable at the moment and this is pushing investors to look at other assets and geographies.

Model portfolio: existing exposure of Japan’s four largest pension funds

Real estate presents a potential solution: roughly five years ago, the introduction of domestic core real estate through private real estate investment trusts (REITs) was welcomed with much enthusiasm. The first private REIT came out in 2010 and within five years it grew to $10bn. Further market growth is expected; some have estimated that the market will grow to $25bn by 2019. Private REITs have been changing investors’ opinions of real estate from that of capital gain to income gain.

Returns for private REITs range from 3.5-5%. Investors venturing overseas expect returns to be roughly 5% or above as a risk premium. However, vivid memories of enormous post-bubble losses in overseas real estate have curbed most investors’ interest in the global market.

Reasons why Japanese investors might invest overseas

An investment from the largest pension fund, GPIF, presents a significant sum to the global real estate market; but more importantly, as a trustworthy government entity it also provides other Japanese investors with a compelling reason to follow in the same direction, thus potentially flooding the global real estate market with new capital. However, other investors such as insurance companies, banks and credit unions have distinct reasons for investing.

For quite some time, the US has attracted Japanese real estate investors. However, this is changing, as investors now look towards Europe, which is transparent, mature and has reached an attractive stage in the cycle. Major destinations include the UK, Germany and France, although investments in other countries through a diversified fund are viable.

Large real estate investors such as Mitsui Fudosan, Mitsubishi Estate and Nippon Telegraph & Telephone Corporation`s real estate investment arm have invested large sums mainly in UK real estate. The total estimated real estate holding in London is about $5bn. A few developers and construction companies that had left Europe after the financial crisis are also returning. These Japanese pioneers are significant considerations for Japanese pension funds and insurance companies which are deciding to invest overseas.

The differences between Japanese and European real estate

There are many elements pushing Japanese investors to make their first step in Europe. Japan’s real estate market has been shaped by the long-term deflation that the country has experienced. As such, in the Japanese market, tenant-friendly contracts are ubiquitous. On the other hand, the European market offers inflation-linked, long-term income. Fixed rental increases come as a pleasant surprise to Japanese investors, who have not come across this concept in Japan.

With the early stages of economic recovery being witnessed in Europe and GDP growth forecasts, the market is looking increasingly attractive versus the overpriced US market. Furthermore, the capital queues in the US are incredibly long, making it extremely difficult for Japanese investors to deploy their investments.

Large global investors such as Norway’s Government Pension Fund Global and Canada Pension Plan Investment Board also play a role in influencing Japanese public pensions that monitor more experienced like-minded entities when venturing into unknown territory. Thus, fund managers and investment partners who have experience and are capable of working with large international investors are at a distinct advantage.

Teaming up with local partners is the key for Japanese investors. Since the overseas real estate market is new for most, investors lack experience. They will, no doubt, be looking to invest with a fund manager or partner. As well as looking for managers with expertise and a good track record, Japanese investors’ inexperience means there will be heavy emphasis on reputation. A special strategy is necessary to establish a good foundation of trust and create strong business relationships with Japanese investors.

Yukihiko Ito is managing director at Asterisk

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