Asian Real Estate Comes of Age
Issue 40 - Apr 08

The days of Asian real estate being seen as nothing more than a high risk, high return choice for private equity investors are over. Claire Saeki reports.

At the recent PERE conference speakers acknowledged the rise of Asian real estate as an established asset class for the global private equity investor. According to Robert Zulkoski, Managing Director Real Estate, Oaktree Capital Management, Asian real estate is now a recognised asset class; and even traditional institutional investors no longer need to be cautious. There are still high risk assets and locations, particularly in the emerging markets. However, like all real estate investment options, even the more established markets are hardly insulated from shifts in the global economy. In the last few years fund managers with shed-loads of cash have been chasing scant stock around Asia. Even globally experienced firms have raised funds of up to a billion dollars but only been able find investments worth a couple of million dollars. Demand for property is hot and available properties are hard to come by.

According to a survey completed by AFIRE (Association for Foreign Investors in Real Estate): For the first time ever, five of the top 10 cities [for global real estate investment] were in Asian markets, with Singapore showing a particularly strong improvement of 19 points. Shanghai, Singapore and Tokyo ranked fifth, sixth and seventh respectively. The percentage of AFIRE member's portfolios in Asia continues to gradually increase. For the past three years, Asia (including Australia) represented approximately seven percent of their portfolios. In 2007, this harketplacepercentage increased to 13 percent.

Changing global landscape
As a result of problems caused by the sub-prime mortgage issue, some US investors might now look for bargains at home. According to Zulkoski, debt has withdrawn and the liquidity bubble is being unwound. In the near term, he says, that leaves an opening for local financial institutions who were previously constrained by the global availability of capital. However, he continues, there are some potential outcomes of the current global market that are dire: "If you need a buzz kill just pick up a local US paper."

Jack R. Chandler, Chief Executive Officer, Asia Pacific, LaSalle Investment, says that Asian real estate fund managers have been both blessed and cursed by excess liquidity, citing the example of three billion dollar funds that were still not fully invested. However, it used to be that this excess liquidity applied to both debt and capital. Now banks are being more cautious about lending. He sees that "dry powder"(cash kept on hand to cover future growth or other obligations), will be increasingly useful in this type of environment. In cases where leverage is not available from banks, says Nick Loup, Managing Director, Grosvenor, fund managers will have to look to their basic property skills rather than relying on the structuring of financial products to deliver results.

Another trend noted during the panel discussion was an increased significance and reach of "core" Asian real estate investment, though the definition of "core" is still up for discussion amongst experts. Chandler believes that the concept is still new to Asia. Zulkoski says that the core areas are likely to increase as it makes more sense, from a growth perspective, to pick Asia as a place to settle money long term. However, Chandler says that to date only Japan can boast the breadth and depth necessary to be described as a core market. He predicts that China will eventually overtake Japan in size, while India will remain a little smaller.

For the first time ever, five of the top 10 cities [for global real estate investment] were in Asian markets.

Emerging markets
While the stable core of Asian real estate is still developing, private equity with a bigger risk appetite or a keen eye for an alternative investment have plenty to choose from. Rick Santos, Executive Director, CB Richard Ellis notes that the problems of getting good returns due to excess liquidity and heavy competition are often limited to Asia's more established markets. Emerging markets, he says, welcome cash and finding assets that put money to work right away can be easier.

Frontier locations hold numerous exciting opportunities for those looking for potentially high capital gains. Vietnam offers such opportunities and a flurry of foreign direct investment and concurrent real estate development has drawn the attention of investors globally. David Blackhall, Deputy Managing Director - Real Estate, VinaCapital Group, says that opportunities abound all over the country. Just one example is the lack of international-style retail space; rising incomes and an emerging middle class are creating a demand for this type of offering.

Santos says of all the Asian countries worth considering for investment the Philippines has been "the worst at marketing itself." It has gone from 1.5 million tourist arrivals 24 months ago to three million today and the resort sector is growing rapidly on the back of this. Groups such as Shangri-La are busy building new hotels and other Asian companies are also investing. Even companies who once dismissed the Philippines now buying up office stock and other asset classes.

For those looking to the next wave of emerging markets, Alisher Djumanov, Managing Partner, Eurasia Capital Management, recommends considering opportunities in Central Asia including Mongolia. Here, a focus of real estate development around commodity production is virtually inevitable. These nations have fine natural resources and many of these former soviet states lack quality real estate stock in just about every area. Offices, shops, hotels and quality housing is required across the board. Kazakhstan has opened up a number of tourism and other real estate investment initiatives, which has spurred rapid economic growth since 2000. Due to the lack of any quality stock, owners are currently achieving sales prices of US$65 per sqf for certain asset classes.

Mongolia is the size of France but with a population of only 3 million, thus opportunities centre around natural resources. Prospectors uncovered the largest coal mine to be discovered in the last 30 years here, just 150 km from the border with China. Significant international funding for the development of roads and infrastructure, a clear precursor to real estate investment, is currently taking place. Meanwhile Uzbekistan, the world's second largest cotton exporter, is sitting on the world's 4th largest oil reserve, and the "oil majors" have no access to it at present.

Strange questions and preconceptions still prevail for first time investors into central Asia, says Djumanov, but the business case is very simple. European, particularly Russian, investors are more educated about this market and are more interested in funds targeting the region. Now that regulations in these countries allow foreigners to lease, and in some cases even own land, many people are keen to get in first before the big local or international competition arrives.

Diversifying
For investors preferring to spread their risks there are Asian "fund of funds" available for the private equity real estate investor. The attraction is that fund of funds mangers invest in a variety of different types of funds (not necessarily exclusively real estate related) across a number of geographies. This does not mean, however, that "fund of funds" managers are detached in their decision making. John Gellatly, Managing Director, BlackRock, a UK based fund of funds, not only is adamant about meeting the manager of each fund he considers, but also wants to see the assets under management in person, no matter how remote they may be.

In Asia, the fund of funds route is proving popular amongst investors according to Richard Johnson, Chief Executive Officer, Standard Chartered Isitihmar Real Estate Fund. From two fund of funds available just a couple of years ago there are now ten on the market. Many of the new breed of investment houses, such as Squadron Capital, invest in other real estate funds as a limited partner (LP) but also take the role of general partner (GP) in their own funds. For Alice Chow, Managing Director, Squadron Capital, picking the best fund managers who can deliver returns is important, as is not being pushed too hard. "If someone says 'now or never'to me, I say never," she says.

Misconceptions and challenges still abound, Chow says that having up to 20 percent of the manager's own money in the fund makes a big difference to investor confidence, but people are still cautious about investing in a "communist" country. "You have to prepare yourself for the fact that people might know nothing," she says. "This means that this year LP's might stall in the investment of funds, as the sub-prime issue plays out. If they are able to get 20 percent return in their home market of the US then they are less likely to take a chance in China."

Looking forward
Preconceptions might still exist but the fact that Azerbaijan is even on the list of potential real estate investment hotspots says a lot about where the center of the earth is shifting. According to Chandler, in 2000 the second page of any pitch book would be a map but now a certain amount of knowledge is assumed. There has been a fundamental shift in the thinking of real estate investment funds which now puts Asia on an equal footing.

Loup says this move from tactical to strategic investing in Asia is a result of the strong growth story here. There have been cash realisations from some of the earlier funds, as opposed to the projections that investors relied on to date. There are real numbers and commanding growth for investors to measure performance against. According to AFIRE members, compared to 2006, China had the biggest improvement in investor's perceptions, moving seven percentage points, while India slipped by almost two points. Although the US was named the top ranking country for capital appreciation, China and India placed a strong second and third. The story is one of continued advancement of transparency and maturity, which bodes well for forward-thinking owners and occupiers alike. RFP

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