Build something beautiful out of stones
What’s next? This is a question that all players in the real estate market are probably asking themselves at the beginning of the new year. The big party is over and the uncertainty is high, currently the highest inflation since the 1970s is accompanied by a weakening economy and rising interest rates. Both of the latter factors have a negative impact on the real estate market.
Any prediction today is difficult. Nevertheless, the snapshot allows a cautious forecast for the individual asset classes:
In retail, with the exception of local supply, consolidation will continue, insolvencies will increase the risk of rent defaults and re-letting in secondary locations will become more difficult. Exceptions here are the crisis-proof luxury segment located in the top inner-city locations. Grocery retail and other local suppliers will give the real estate stability, because this area is already benefiting from the high level of immigration and the increasing number of people working from home. As in the past few years, some existing shopping centers with a large range of different retail outlets will have to reinvent themselves and create alternative uses. This entails a great need for replanning and conversion and represents an opportunity for financially strong project developers.
A falling demand for space can already be observed on the market for office properties. So far, every recession has also brought about a decline in take-up, so vacancies are likely to increase further in the near future. A number of project developments are already on hold. However, in two to three years the lack of supply of modern space could lead to excess demand and thus to rising prices in the sought-after locations.
The inflation-related loss of purchasing power and the threat of insolvency will also affect the demand for logistics space. The online trade, which has weakened after the pandemic, cannot compensate for this. On the other hand, there is comparatively little suitable logistics space available on the market for more and more people, and the increasing densification of inner cities will further increase the shortage of space on the “last mile”. This means that logistics space will again be in great demand, at least in the medium term.
The demand for apartments has not weakened, if only because of the high level of immigration. On the contrary, those who are currently unable to buy property due to high interest rates inevitably switch to the rental housing market. Due to a lack of supply, they have a hard time finding suitable apartments there, and the drop in new construction activity is making this problem worse. Politicians are trying to counteract this and are increasing the tax incentives by increasing linear depreciation to 3%.
In the future, 20% of the construction costs for sustainable buildings should be amortized over four years. At the same time, the climate targets for the German real estate portfolio mean that the legal requirements in residential construction continue to increase. The associated financial and bureaucratic effort for the energetic refurbishment of existing buildings could become a real problem for small and medium-sized portfolio holders.
The turnaround in interest rates, which caused a shock in the investment property market last year, should now be over. This at least brings clarity on the buyer side, where investors with strong equity capital will presumably continue to play the main role, as they are already using the lower multipliers to acquire solid residential complexes.
On the sell side, some large owners who have had to adjust their book values down on their balance sheets have already announced that they intend to divest some of their holdings. However, there should only be forced sales of rental houses in exceptional cases, for example if short-term financing has to be redeemed “on edge”. The project developments are different; here one or the other courageous person who has bought at high prices with a lot of borrowed capital could end up running out of breath.
One thing is certain – 2023 will remain a challenge for all of us. It is therefore best to stick with Germany’s greatest poet, Johann Wolfgang von Goethe, who said:
“You can also build something beautiful out of stones that are placed in your way.”
Delano Kyles/ CEO & Managing Partner