December 2019

By | 23rd January 2020

The last month of the decade saw a continuation of the theme that has been running since after the summer in listed real estate names, namely the outperformance of the UK and Sweden over the rest of Europe. The UK returned 4.6% (in sterling terms) and Sweden returned 6.6% (in Swedish krona terms), while the eurozone managed just 0.8%. Looking back over the calendar year, the UK returned 29.8% (in sterling terms) and Europe ex UK returned 25.2% (in euro terms), with Sweden over contributing at 52.6%. Given these hugely positive returns, it is a surprise that Switzerland – which usually outperforms when investors are nervous – delivered 39.3% (in Swiss franc terms). The answer lies, once again, in the market’s expectation of interest rate progression. Sweden’s Riksbank indicated that it was going to return its base rate to zero (from negative) but recent expectations point to nothing higher than that. The Swiss rates, meanwhile, remain firmly in negative territory, and therefore the offer from a local-listed property company of a solid 3% dividend yield, even if it has little hope of capital growth, seems ok. We believe there are better forward-looking returns to be had elsewhere in 2020 and have therefore very little exposure to Switzerland. Our UK overweight served us well in the second half of 2019 as investors took comfort from the growing expectation of a parliamentary majority for the Conservative Party. In the end, few predicted the scale of the majority and markets are now encouraged that the prime minister can drive a sensible dialogue with Brussels, ignoring the demands from the more extreme elements of his party. However, businesses need clarity as quickly as possible.

While 2019 did not see much primary issuance, it was a busy year for existing companies, with a strong response to follow-on raises mixed with a healthy dose of mergers and acquisitions (activity that has been covered in previous monthlies). December saw two more deals. Yet another convoluted and opaque transaction in Germany, with ADO Properties (which previously focused exclusively on Berlin residential property) acquiring ADLER Real Estate (an owner of lower-quality residential properties across Germany). This announcement came only a few weeks after ADLER had bought 33% of ADO – confusing for all those minority institutional shareholders. Fortunately, we are not holders. ADO fell -9.2% in the month and ADLER is not in the benchmark. In the UK, Blackstone has offered a 12% premium to net asset value for Hansteen’s £605m portfolio of regional industrial assets. We expect the bid to be accepted as the management team (who are significant shareholders) have been looking for an exit for some time.

The other poorly performing residential name was Irish Residential Properties (-9.6%), where local politicians are pressing for further rent control beyond the 4% per annum rental growth cap. Buoyed by the success of their Berlin counterparts, Dublin’s politicians will enjoy widespread support given that residential rents in Dublin over the last decade have risen almost as fast as those in Berlin. Elsewhere, residential names did well, particularly in Scandinavia, where Kojamo – Finland’s largest listed residential landlord – and Balder in Sweden returned 8.1% and 8.6%, respectively, in December. Across Sweden, investors seem to have put aside concerns about asset price bubbles and are focusing on the rapid earnings growth delivered by the combination of high leverage and a very low cost of debt. One of the most leveraged Swedish companies – Klovern, with a mix of secondary and tertiary assets – returned 23.8% in December and a staggering 128% in 2019. As fundamentally driven real estate investors, we are no longer comfortable with exposure at these prices. In the UK, the post-election euphoria has dialled back but sentiment remains positive. Central London office names, Derwent London, Great Portland Estates and Workspace stand close to (or at) the premiums of their last published net asset values. We concur with the expectation of improving investor sentiment towards the UK, but much of this is now reflected in pricing.

Discrete rolling annual performance as at 31.12.2019 (%):

Share Price8.752.3037.30-7.8141.42