For the first time the performance of Asian real estate can be compared against the US and Europe. Kevin Swaddle explains why this is so important
The release of IPD's latest Pan Asia Return Research (PARR) means that we now have a time-series of direct property investment returns for Asia that is five years long. There's a 10-year history available for Japan and six years for Korea, but it's the existence of the regional figure that's really significant. Until the first release of the PARR two years ago, many basic statistics about real estate markets were entirely lacking for Asia, including information about the level of returns, market volatility, the split between income and capital.
Five years is still too short to do serious statistical work on the risk characteristics of Asia compared with the other regions, but the addition of each new period increases our understanding of real estate investment in the region, its performance profile, and the diverse sub-markets that constitute the whole. The fact that the time-series now contains almost a complete real estate cycle, from the tail-end of the boom in 2007 to the bust of 2008-09, through into the recovery in 2010-11, is helpful.
On a one-year view, US real estate has had the highest total returns, with an unleveraged return from direct investments of 14.5% in 2011. This was well ahead of Europe, which had a 6.6% local currency composite return, according to IPD's Pan European Index. But, according to PARR, it was also ahead of the 8.4% return achieved in Asia. The pattern of returns in 2010 was actually quite similar, with the US ahead of the other two regions. However, much of the US return in each of these years was due to property values recovering from the dramatic write-downs made in 2008-09.
But, when the three regions are compared on a five-year basis, a different story emerges. Over the full history of PARR, the performance of Asia real estate is comfortably ahead of both Europe and the US. The pan-Asia average is 6.2% per year, compared with 3.5% per year for Europe and just 2.3% for US real estate.
Over this period, Asia alone achieved a positive capital return, a very attractive feature during a period when many investors were seeking capital preservation. Asian capital values grew by 0.9% per year over the five years to the start of 2012, while the value of European property investments fell by 1.9% per year and US values fell by 3.5% per year. By contrast, Asia had the lowest income return, at 5.3% per year, compared with 5.5% per year for Europe and 6% per year for the US. This is not surprising, as capital values often move faster than rents.
The pan-Asia result excludes Australia and New Zealand. If these markets are added, to create an Asia Pacific composite (assuming a 20% weighting), the 2011 total return rises from 8.4% to 8.7%. Over five years, the addition of Australia and New Zealand shifts the benchmark from 6.2% per year to 6.3% per year.
For some investors, the margin of Asia's advantage over the last five years will have been even greater. By most estimates, Japan has by far the largest stock of income-producing investments, so its poor performance over the last five years has a disproportionate impact on the pan-Asia composite. If the components of the PARR are reweighted to create a benchmark excluding Japan, the composite return for 2011 jumps from 8.4% to 13.9%. This is only slightly behind the 14.5% US return. However, on a five-year basis, the return for Asia excluding Japan rises from 6.2% to 11.3% per year, dramatically higher than the returns in Europe and the US over the same period. It's the size of Japan's property investment market that makes it influential. Hong Kong has had good returns in several years, but the Hong Kong market is comparatively small, so its impact on the Asia composite is smaller. China has had good years and bad, but the size of its income-producing investment market (as opposed to the stock of buildings) is still quite small, so its influence is modest.
The latest figures from PARR draw on income and valuation data on assets worth $244bn at 2011, up 20% on the previous year. The value of assets in IPD's databank on an Asia-Pacific basis is $391bn excluding Australia and New Zealand.
The 8.4% pan-Asia return is the weighted composite of the local currency returns for the nine markets listed. There was a wide range of returns included in this composite, from a high of 22.3% for Hong Kong to 3.4% for Japan, plenty for the global strategists to take on board. Interestingly, the top three markets are all under the influence of China: Hong Kong, the mainland itself and Taiwan. Hong Kong was the best of the seven countries with a full five-year history, with an annualised return of 16%, and Japan had the lowest return, just 1.6%.
PARR has also revealed significant differences between the sectors. Office returns rose to 7.5% in 2011, overtaking industrial/logistics property (7.2%), which had beaten offices in the three previous years. But, both sectors lagged retail, which had a return of 11.2% in 2011. Over five years, retail property had an annualised return of 8.5%.
This was well ahead of the five-year return from offices, which achieved 5.9%. Offices in turn narrowly beat industrial/logistics property, at 5.7%, but with much more volatile returns year to year. Hong Kong retail was the best individual market. Office properties comprise 51% of the Asia databank, retail 25%, industrial/logistics 7%, while the remaining 17% is residential and other types of property.
The latest release of the PARR is another significant step towards greater transparency in the Asia property market, enhancing our ability to compare the performance of assets, sectors, locations and funds in a meaningful way. It is also a major advance in our ability to benchmark investment performance in Asia.
PARR is not the end of the story. While it gives a robust basis for doing many things that were not possible before, it is important to note that the returns presented in the PARR are not exactly the same as other IPD indices. The calculation is the same, but some of the input data is not to the usual standard, valuations is a challenge in some Asia markets, and coverage ratios are lower than IPD would allow for a fully-fledged index. It is important that more data is sourced directly from more managers, particularly in the emerging markets, to increase accuracy and reduce the need to make assumptions, as well as to increase the coverage of the series.
Kevin Swaddle is managing director, Asia at IPD