U.K.-based online real estate investment platform BrickVest has published its real estate outlook for 2018, developed by CEO Emmanuel Lumineau and CIO Thomas Schneider. The outlook, which includes research conducted among European institutional real estate investors, highlights key trends including interest rates, the impact of Brexit, real estate investment strategies and industry sectors to watch.

Brexit:

With regards to Brexit, Brickvest said it has clearly had an effect on the UK in 2017. However, it said it believes that across Europe, there remains strong deal flow levels and investment opportunities. "Our recent research showed that one in three (33%) commercial real estate investors highlighted Germany as their preferred region to invest in," BrickVest said. "This is the first time that Germany has been chosen as the number one region to invest in and ahead of the UK which was selected by a quarter."

Despite investors seemingly focussing away from the UK, there has been an abundance of international capital flowing into real estate, almost every major institutional investor globally has been increasing their portfolio allocation to real estate over the last five years mainly because of lack of alternatives.

Moreover the average risk appetite of BrickVest’s investors continues to rise to 52% from 49% last quarter and from 48% this time last year, meaning a sentiment shift from low to balanced risk.

Interest rates:

Brickvest admitted it was pleased by the Bank of England’s decision to raise interest rates in the UK in November, describing it as "momentous" for the economy as it should be the first in a series of gradual increases. According to BrickVest, the BoE feels that inflation is getting out of control, and so the economy needs higher borrowing costs to recover.

"In contrast, the ECB’s decision to unwind its QE programme to €30 billion a month is a glowing endorsement of healthy Eurozone growth and falling unemployment, which will more than likely mean that interest rates will stay at historic lows until at least 2019 in order to help financial markets adjust," Brickvest said.

Investment strategy 2018:

BrickVest said that with demand expected to remain relatively high in 2018, one of the main challenges will be to find good deals.

Investors will have to find the right balance of higher leverage (due to continually low interest rates) and being able to handle potential price corrections in the event that the market cools off due to external factors such as Hard Brexit, escalation in the US vs. North Korea conflict, etc…

Institutional investors are investing in less liquid secondary and third level cities to achieve acceptable going-in cap rates (cap rates in major markets such as Paris are historically low). Investors will also be forced to look at less traditional investment products such as student housing, services apartments, and senior housing or industrial to get better returns. The overall risk of these investment is that they are in general less liquid and if the market bounces back, cap rates will also increase much faster than in downtown Paris.

In order to manage this problem, some institutional investors are now investing in real estate debt products so that they a.) have their exposure to real estate but b.) also have an achievable exit (i.e. when the loan maturity is reached). BrickVest says this might be smart strategy in 2018 given real estate prices are already very high and might fall in the long term (so no upside opportunity but also no real downside risk).

Sectors to watch:

The highest level of volatility for investors remains the office sector, as many international firms put decisions on hold over their long-term office space requirements. BrickVest's research with institutional investors highlighted that more than a third (34%) believe the biggest real estate investment opportunities will be found in the office sector and the same number in the hotel & hospitality industry over the next 12 months.

Three in ten investors (31%) thought the industrial sector would present the biggest commercial real estate investment opportunities over the next 12 months while one in five (19%) cited the retail & leisure sector.

“Looking ahead, we believe the best value can be found in real estate deals that are less sensitive to price erosion. Investors should keep a close eye on the risk of high leverage and Debt Service Coverage ratios to ensure their assets can sustain their debt based on cash flow," said BrickVest's CEO Emmanuel Lumineau. "The best investment options for 2018 will most likely be found in value-add real estate in combination with a conservative financing policy. We expect to see more investors draw to student housing, serviced apartments and senior housing to generate better returns. Investors may also increasingly allocate to real estate debt to maintain their exposure and secure an achievable exit at maturity.”