Real estate managers are claiming that recent stock market turbulence is making their asset class an attractive proposition for pension funds that are looking to diversify

David Paine, head of real estate at Standard Life Investments told Pension Funds Insider that some pension funds have already shown an interest in re-weighting their portfolio towards more property holdings.

Paine has said that "good quality commercial property is likely to remain resilient despite the global economic slowdown, which we expect to result in a period of weak growth rather than outright recession."

Paine claims the yield offered by real estate remains "relatively secure and sustainable", reflecting resilience in core property markets, such as London office space where persistent demand is keeping rental income high.

Paine stresses that "although confidence has taken a few steps back in the recent market volatility, vacancy rates have generally been falling globally and strong rental growth has been recorded in some of the highly cyclical, supply-constrained office markets such as Hong Kong, London and Paris."

Definite divides are becoming evident in global real estate markets, Paine suggests, however. On the one hand he says that "Asian markets remain resilient. Real estate markets are a product of the underlying economy and, despite signs of a slowdown in Australia, the Asian economies generally remain buoyant."

Paine notes though that "the story is more complicated in Western markets where recent fears of a 'double dip' have weighed on investor sentiment." In the UK and many other core markets, however, "the performance of prime assets versus the more challenged secondary markets is increasingly polarised."

Gloomier European outlook

One region where real estate appears to be offering less of a safe haven from volatile equities is the Eurozone. Recent research from the European Public Real Estate Association indicates that a 20% exposure to indebted peripheral economics (Portugal, Italy, Greece and Spain) has made listed real estate companies lose 17% on average between June and August.

Yet within the crisis-hit region there are still opportunities for solid returns, says Dick Boer, a European real estate expert at Dutch firm Kempen. Boer highlights that over the last few months, there has been "an astonishing decoupling between the valuations of those real estate firms who are exposed to the full brunt of the sovereign debt crisis, and so also fears the Eurozone may disintegrate, and those who are largely sheltered from the storm."

Nonetheless those with an appetite for risk could find opportunity amidst the flailing Eurozone property markets, Kempen adds.

Looking beyond 'safety first'

Ben Habib, group chief executive at First Property, a real estate fund manager which invests in the United Kingdom and Central/Eastern Europe, says that seeking shelter in 'safe' property investments can backfire on cautious trustees.

"This rush to safety that pension scheme are making is in some respects flawed," claims Habib. "There is a trend to buy prime assets in the UK to try and get hold of less risk-averse property assets.

"But if you look back at say the City or the West End (of London), since 2004, the volatility displayed by asset pricing is massive. It is far more stable in, say Poland, than it is here."

He says that with yields being so low in central London, for example, any change in yield has a massive effect on capital value and on a pension scheme's total return: "So half a percent change suddenly becomes a 12% change in cap value".

"Looking for risk averse assets may mean that schemes end up setting themselves up for a fall," he warns.

Paine emphasises that above all, pension funds investing in real estate need to be "discerning" in the current environment.

He is confident that the challenging market conditions will see skilful real estate managers coming to the fore and gaining business with pension funds. He said: "Investors will seek managers who have done, and continue to demonstrate the ability to deliver performance through their research insight, careful selection of assets and active management.

"Whilst always so, these factors are even more relevant in a period of lower growth where the need to pick and execute strategies for their funds will distinguish the best from the rest."

First published 06.09.2011

dbillingham@wilmington.co.uk