How global property can protect your portfolio

The first stage of our evaluation process is a defined initial screen, which filters down our investment universe based on five criteria. 

We then undertake fundamental research, financial forecasts, and valuation analysis. This analysis includes assessments of management, asset quality, financial position, strategic direction, regulatory environment, and overall competitive landscape. Bottom-up research is very important to the investment process given the focus on active stock selection. 

We spend the majority of our time undertaking company visits and asset tours, stock forecasting, and valuation analysis. As a part of stock fundamental analysis and due diligence, we undertake ESG analysis across a range of environmental, social, and governance factors. 

The market is quickly moving towards the Taskforce on Climate Related Financial Disclosures (TCFD). Overall, we consider this to be a positive development. Social disclosures have been improving whilst corporate governance evaluations have been a mainstay for investors already now for many years.

However, environmental disclosures need to materially improve - particularly around carbon disclosures. The World Business Council Green House Gas Emission Protocols don’t fit very well when it comes to property. As a result, we have developed our in-house methodologies that cover “controlled” and “non-controlled” operational carbon and embodied carbon. For our sector, this entails the development, redevelopment, and maintenance of CAPEX programmes. 

Given the lack of standardised benchmarks, we have had to develop this in-house through our research. The analysis is detailed and complex. To address this we had Ernst and Young independently assess our methodologies and assure our operational carbon disclosures. 

Why is real estate the best investment opportunity for those with an ESG-centric mindset?

We believe that supply chain bottlenecks will likely subside as the globe normalises post the covid era. It is important to note that the supply chains already exist, ports, rail, roads and logistics facilities have not disappeared. 

The biggest disruption to supply chains outside of European geopolitical risks is labour productivity. The former is new and the latter has persisted for longer than original expectations. 

Although most of the world has now reopened, China is an exception with their zero-COVID policy.

The impact of supply bottlenecks has in the main subsided and in many instances, the reverse has occurred. Many businesses have over-catered for their forward orders which have led to a strong rise in inventories and a marked rise in warehouse utilization rates. The risk of economic slowdown does loom which could lead to a fall in aggregate demand, which could lead to a slowdown in tenant demand. However, it should be noted that any slowdown in tenant demand would be from very high elevated levels. 

The Unite Group (UTG) is the largest provider of private purpose-built student accommodation in the UK. It owns and manages a large platform of 74,000 beds across 172 assets in the top 25 UK university cities (London, Liverpool, and Birmingham to name a few). 

UTG is a leader in sustainability with a well-regarded development capability. As a market leader, they have high operating margins. The company has also developed a cloud-based technology platform - leading to management efficiencies and a more seamless customer experience.

The UK tertiary education system is well regarded which attracts large numbers of foreign students and contributes approximately £50 billion to the British economy every year. 

UTG’s portfolio is highly occupied (+95%) with a split of 70/30 of UK versus foreign students.

As activity post-Covid normalizes and international travel returns, Unite is expecting strong EPS growth (+10% FY22 and +23% FY23). They are also increasing their dividend payout to 80%. UTG are currently in the process of delivering a record development pipeline of 6,000 beds, at a cost of nearly £1 billion. Having said this, the pipeline will add an additional 10% to EPS over the next five years. They are also well placed in a rising interest rate environment with a strong balance sheet.

We have introduced some hotel and leisure assets into the portfolio as economies have reopened post the pandemic. 

We have witnessed a strong recovery in domestic tourism as social distancing restrictions have eased. Corporate travel is also recovering as business returns to normal. Hotel and resort occupancies have spiked and room rates are increasing driving revenue. 

Valuations remain attractive at below replace values which are also constraining supply. We are expecting hotel and resort fundamentals to continue to improve with the only caveat being a more pronounced economic slowdown which may delay the recovery of corporate travel.

We have very little CBD office exposure - mainly investing in the five main wards of Tokyo. Valuations are very attractive at a 50% discount on net asset values.

Our retail exposure is mainly through convenience-based shopping centres which as performing very well with high occupancy and rent collections. The assets are service-based offerings with less threat of online cannibalisation. Valuations are appealing and are expected to provide defensive cash flow exposure in the event of an economic slowdown.

Where do you see the biggest opportunities/growth moving forward?

We expect that current macroeconomic conditions, comprising higher energy costs, the start of the monetary tightening cycle and the potential for a slowing of economic growth will favour landlords that are able to maintain pricing power. 

More specifically, those assets that are supported by long-term structural themes, that are demonstrating resilient tenant demand. Strong balance sheets are also imperative.

The US, whilst it won’t be immune from macro headwinds, has shown to be comparatively resilient to other major economies given their higher labour mobility and tight labour markets. 

We believe the biggest opportunity lies in the detached housing for rent sector in the US. Fundamentals are currently very strong with occupancies +97% and double-digit rental growth. Housing affordability issues have increased in the US due to elevated housing prices and the primary method of housing finance in the US 30-year fixed mortgage rate has increased to 5.7%. This means a greater propensity to rent and the average age of the renting cohort will continue to rise. 

Cash flows from detached housing are expected to continue to grow and likely prove resilient in the event of a pronounced economic slowdown. Valuations are also attractive trading at a 20% discount to net asset value with the recent market pullback. 

Seizing the opportunity