The Real Estate sector continues to grow and remains optimistic in terms of stability and future outlook
Yet it will not look the same with opportunities arising and the needs of the market adjusting.
The impact of macro-economic drivers
For the last decade, macro-economic drivers, such as low interest rates or increased funding activities, have triggered high prices. The residential market received a boost as costs were manageable and investors’ preferences for yield and moderate valuations provided stability. Currently, inflation is considered one of the biggest areas of risk, followed by geopolitical tensions among pension funds and institutional investors. Interest rates continue to rise and depending on how quickly this emerges, it will be a major challenge for investors and private home buyers. While the duration of inflation will significantly impact the sector along with the still uncertain responding behavior of investors, real estate as a sector – along with real estate portfolios – will remain an attractive asset class. Geopolitical risks lead to changed market dynamics and influence, such as the increasing role of governments in economies and the shifts in geopolitical powers. Despite challenging economic waters, record levels of private capital for real estate have been raised.
Digital transformation
Also, trends towards digital transformation have accelerated. Being digital and having value-added technologies and processes will be a significant differentiator in the market, i.e. construction. Market players that leverage modern processes, such as Building Information Modeling (BIM) or Lean construction, can react quickly through on-the-spot analysis and adaptations of contractual clauses, costs, timelines and quality. Availability of data and the flexibility of teams are great contributors to limit exogeneous risk factors for ongoing projects.
Increased consideration of leveraging the Metaverse (digital assets) and cryptocurrencies are seen in the market and considered as the next frontier of experience. While still very early in adoption rate and experience, there are compelling early real estate use cases, as well as emerging technologies with great promise to stay close to.
Technology and e-commerce trends affect the attractiveness of certain assets, such as warehouses, data centers and telecom towers. The surge in online spending has increased tenant demand, the result being that particularly logistical properties have been on the positive side of the challenging past months while investors were hesitant about industrial production facilities. The market indeed noticed a significant number of such properties being offered for sale.
Despite technological advancements, supply chain bottlenecks as a result of the pandemic, recent geopolitical escalations and economic uncertainty (causing productions to slow or even halt), along with labor shortages, were and still are dramatic challenges for the sector and a risk for the global economy. Acceleration of digitalization of logistics and supply chain management, such as real-time warning systems that forecast shortages at an early stage, are crucial to respond agilely and avoid delays in real estate developments.
Increased interest in the residential market
Within the residential market, a geographical diversification as well as diversification in the type of housing demanded in the market offers opportunities to play a larger role in the Real Estate sector going forward. More livable space and a shift to single-family rental property to accommodate the increased time spent at home mirrors the effects of the pandemic. High tenant demand is also recognized for multi-family properties, student-housing as well as new formats like co-living options that have entered the market already. Senior housing such as assisted care and living facilities are experiencing a spike in investment interest, which is also supported by long-term demographics. Overall, residential assets have proven their resilience and investors are turning more towards this market segment as opposed to other assets with significant exposure as offices, retail and Horeca.
Sustainability factors
Climate change is back in the spotlight and a growing influence of ESG factors is expected to remain. As the property sector is the largest contributor to greenhouse gas emissions, and buildings account for 40% of global energy use and carbon emission, the players in this sector can contribute greatly to reduce the climate’s worst impacts and increase resilience to environmental risks. Green buildings are seen as an increasingly significant driver of real estate investments. It is not a question of whether it should be done but rather how business is done now. It is a market differentiator and competitive advantage to have a green footprint.
The EU Sustainable Finance Action plan and regulations like Sustainable Finance Disclosure Regulation (SFDR) that impact the Real Estate sector from the investment and asset management perspective, are hot topics for a financial hub like Luxembourg. Landlords will face higher capex to meet changing GHG emission regulations and tenants’ demands. Older and unrenovated buildings are more prone to tax and regulatory penalties. Furthermore, investors have increased expectations to assess how real estate players integrate ESG factors before making their decision.
The future of work
The office sector is in the midst of a major reset. Office spaces were impacted through falling rents and occupancies and still face a short-term uncertainty as to what extent workers will return to the office. The office is no longer seen as a fixed asset, but as an overall workplace experience that is not tied to a physical location and rather influenced by increased investments in onsite amenities, better workplace technology, flexible space layout, work models, and tenant contracts and increased green footprint.
While the majority of business leaders think that hybrid work is here to stay, recent studies show that only a few businesses have already started to take official steps towards planning the future of work. Businesses must establish a new approach to working that puts humans at the center. A transition from a traditional office space business to more of a hospitality business: the office experience must provide greater benefits than the home environment to encourage employees to want to come to the office. Employees have new opportunities with tight labor markets and fewer geographic barriers to entry and their expectations are driven by a mix of pay, role and flexibility. The EY Work Reimagined global employee survey 2021 revealed 54% of employees would quit if a certain level of flexibility is not provided. The office of the future needs to consider technology, workplace design, sustainability, and the overall employee experience. Redesigning work is crucial when driving growth, anticipating uncertainty and securing top talents. This is a major opportunity for businesses to transform the working environment and will look very different from business to business, from figuring out the hybrid work model, applying changes to existing processes and operating models, revamping strategic planning, and attracting and retaining talent. Going forward, investing in offices requires increased effort by leveraging local knowledge and resources to manage risk properly.
The Real Estate sector has proven its resilience ability in the past and is challenged to continue to do so. How quickly it will do so will be determined by the level of integration of innovative technologies, execution of a holistic sustainability agenda, adaption to shifted market demands and providing new possibilities of living, working, investing and financing, as well as tackling the hunt for talent creatively to ensure growth across the entire value chain. It varies very much across the globe and reflects a highly unequal global recovery.
How EY can help
To further explore the drivers of growth and change in the Real Estate industry, to engage in interesting dialogue and exchanges on market trends, as as well as to attend trainings, please contact us to sign up to receive communications on our EY AIF Club programme, which runs annually from September to July. We look forward to connecting with you and discussing further.
