Money flows into Brazil, Russia, India and China as the middle classes expand and demand for property rises, which, despite the pitfalls, holds promise for long-term investors in the sector.
After months in which the British commercial property market was flat and directionless, change may be in the offing. For the first time since July 2009, capital values fell in November, albeit by only 0.02%; and they have continued this downward trend. Perhaps, then, it is worth looking beyond these shores for more enticing opportunities.
The Bric nations – Brazil, Russia, India, and China – could fit the bill. Money is once again flowing into these emerging economies after two years of muted performance, while sentiment has rebounded. China seems to have avoided a “hard landing”. Inflation, too, has started to tumble, meaning central banks can begin easing monetary policy. And, while we are unlikely to see the formidable growth of 2007-08, the Bric nations are set to continue to dwarf the economies of the West. Estimates from the International Monetary Fund put combined GDP for the Brics at 6.1% for this year; this compares with 0.6% for Britain and 1.8% for America. The middle classes in these regions are also swelling – and eager to spend their new-found wealth. Businesses are becoming increasingly dominant on the world stage, with the demand for office space growing exponentially.
The picture, though, is more complicated than headline GDP growth. True, robust economic numbers should feed through to the sector, but government interventions and market-specific regulations are also important factors. Brazil, for example, is open for business to international investors. Its property market is booming. Indeed, Brazil has one of the highest owner-occupier residential rates in the world. Its commercial market is also rocketing. According to Jones Lang LaSalle, a global property services firm, commercial property volumes in Brazil were one of the highest in the world in 2010. This is not surprising, as the country is hosting the 2014 World Cup and 2016 Olympics. (Strategy continues below)
The government is playing its part. In 2005 it set up the association for inward investment in property and tourism (ADIT Brasil). This organisation aims to attract foreign money for commercial property-based investments. It does this by introducing investors from abroad to reputable Brazilian architects, lawyers and so on, with the aim of encouraging business relationships. The fifth ADIT Brasil conference, held in May 2010, resulted in $1.8 billion of deals being struck.
Similarly, Russian commercial property is flourishing. Investment in 2011 was higher than the year before. Domestic investors were the dominant players, but cash from overseas is also coming in. Indeed, the largest single deal was carried out by Morgan Stanley, which bought a shopping centre in St Petersburg for an estimated €840m.
China’s economic growth – 9.2% in 2011 – is the envy of the world. With that, there has been a boom in real estate. China has the largest commercial property market on the planet. As a result, many fear that the property market is overheating. Growing demand and limited office space are partly driving the market; as is money from Chinese insurers. Officials, in response, have launched a series of measures to take some sizzle out of the market.
The outlook for the Chinese market remains opaque. It may be freer than it was in the past, but there are still many unknowns. There is a concern about the size of substandard loans that are on Chinese banks’ books. A large swathe of commercial property also does not have the correct government authorisations for use by international firms.
”Businesses are becoming increasingly dominant on the world stage, with the demand for office space growing exponentially”
This touches on a broader theme for any international investor, namely how to operate in an unfamiliar – and often murky – regulatory environment. Many, as a result, form relationships with domestic firms.
Then there is the problem of supply. The old adage “buy land, they’re not making it anymore”, may be pertinent to a relatively small island like Britain, but it has less relevance when considering the huge land-masses of the Bric nations. China, for example, is 40-times bigger than Britain. Brazil is 24-times larger. Their populations also dwarf our own (see chart).
This has implications for commercial property. Tight supply drives up rents, but with fewer restrictions Bric authorities can react by freeing up available land (within reason) for development. This in itself has its own dangers. In an era of cheap money, oversupply can quickly become a problem. This is turn can send returns plummeting. Walking around the streets of Dubai reveal what huge pots of money, ambition and hubris can bring.
The Bric economies look set to outstrip their western equivalents in economic terms for years to come. This, in turn, should feed through to a more buoyant and ultimately profitable commercial property investment sector. There are, of course, pitfalls to be negotiated, but for those with expertise and willingness to look beyond their domestic markets the rewards are there.
Stewart Cowe is an investment director, property research and strategy at Scottish Widows Investment Partnership.