Central banks around the world are putting the brakes on monetary policy because of rising inflation rates. The result is rising interest rates, which can weigh on the real estate market. Peter Bezak of Zurich Invest explores the question of why investors should now invest in foreign real estate, of all things, at a time when interest rates are expected to rise.
After the temporary slump caused by the Corona crisis, prices on the international real estate markets have recovered strongly in the past year. "Low interest rates have been crucial to the real estate boom of recent years and the associated price increases. Last year, investors benefited from further favorable conditions: In addition to the recovering economy and loose monetary policy conditions, expansionary fiscal policy has also had a positive impact,", says Peter Bezak, economist and investment expert at Zurich Invest.
This year, however, conditions will change. The U.S. Federal Reserve, unlike the eurozone's monetary watchdogs, is backing a tighter monetary policy. Therefore, according to the economist, after the prospect of a first interest rate hike in March, two or three more hikes are to be expected in the course of the year. Rising interest rates could reverse the trend and cause real estate prices to fall again, he further explains. However, as interest rate increases are expected to be moderate, the impact on real estate prices is also likely to remain within tolerable bounds. In addition, price reactions are usually not observed immediately, but only after a certain delay. "Regardless of these factors, real estate is a real alternative to domestic real estate for a variety of reasons", Bezak emphasizes.
Attractive risk-adjusted returns over the long term
The steady professionalization of real estate as an asset class has made it an attractive, risk-adjusted alternative internationally. A key factor, he said, is the consistent rental income achieved to date. The income yield, in addition to the change in value yield, is a further contribution to the total return and an important component for stable investment success, the investment expert explains. The Investors-Non-Listed-Real-Estate-Vehicles (INREV) index is a good example of the development of this type of investment.
The INREV index tracks the performance of European unlisted real estate funds. Subsequently, yields do not fluctuate to the same extent as the change in value yield, which provides information on the change in value of real estate in relation to the market (see figure). But inflation could become a problem for real estate investors, according to Bezak, if price increases cannot be passed on in the same amount on the income side. But interest rates, which remain low in Europe, made real estate an attractive investment for many investors in 2022, despite inflation.
The global real estate market: a very different order of magnitude
"Swiss pension funds have a lot of experience as investors in the domestic real estate market. However, the international market offers far more investment opportunities. Here are ideal complements to investments at the national level", says Bezak. Swiss pension funds investing abroad could already cover about two-thirds of the global market with the fastest-growing real estate markets in Europe, which include Germany and France, and the world's largest real estate market, the U.S. (see chart). Moreover, the individual countries not only had different economic cycles, but also a relatively low correlation of returns between the different markets. It is precisely this heterogeneity that provides the necessary diversification in an international real estate portfolio.
Investment opportunities in Switzerland are severely limited simply because of the limited size of the market, Bezak said. However, the investment potential in foreign real estate is not yet fully exploited by Swiss pension funds. Who invests abroad, diversifies its risks and receives so the chance on long-term higher net yields.
Transparent real estate markets abroad
As the expert goes on to explain, the USA, Great Britain, Australia and France are regarded as role models for real estate markets around the globe in terms of transparency. The high level of transparency is achieved through a legal framework that prescribes high standards for data availability and quality, as well as frequent performance measurements with high requirements. A good example of this is the centralized Multiple Listing Service (MLS) established in the U.S., which contributes to an open exchange of information, he said. "This real estate information system clearly lists the available supply of properties, including the asking sales price. Suitable properties can easily be found and compared with each other. In addition, the MLS simplifies price negotiations because sellers and buyers all have the same information", explains Bezak.
Invest globally with experienced real estate professionals
Institutional investors had the best access to investment opportunities in global markets due to their large investment volumes. The key to success, they say, is always choosing the right real estate investments. Specific real estate knowledge, a lot of experience and, above all, a good local network are indispensable, says Bezak, adding: "Just as important is conscientious management in order to manage real estate efficiently. This expert knowledge is also required if transactions are to be correctly analyzed, structured and, in the end, successfully implemented. Whether in Austin, Paris or London, the international real estate market offers a wide range of opportunities worldwide for institutional investors such as pension funds."