Sovereign Funds Rethink Reliable Real Estate?

Tom Arnold of Reuters reports sovereign funds rethink once-reliable real estate:

The COVID-19 pandemic has forced sovereign wealth funds to think the previously unthinkable.

With prime office blocks lying empty around the world, hotels half-vacant and retailers struggling to stay afloat, the funds are retreating from many of the real estate investments that have long been a mainstay of their strategies.

Sovereign wealth funds (SWFs) invested $4.4 billion in the sector in the first seven months of 2020, 65% down from the same period a year ago, according to previously unpublished data provided to Reuters by Global SWF, an industry data specialist.

The nature of property investments is also shifting, with funds increasingly investing in logistics space, such as warehousing, amid a boom in online commerce during the pandemic, while cutting back on deals for offices and retail buildings.

Such shifts in behaviour can have seismic effects on the global real estate market, given such funds are among the largest investors in property and have interests worth hundreds of billions of dollars in total. Three sovereign funds sit within the top 10 largest real estate investors, according to market specialists IPE Real Assets.

A big question is whether the changes are structural for the funds, for which property is an asset-class staple at about 8% of their total portfolios on average, or a temporary response to a huge, unexpected and unfamiliar global event.

"Real estate is still a big part of sovereign wealth fund portfolios and will continue to be so," said Diego López, managing director of Global SWF and a former sovereign wealth fund adviser at PwC.

"What COVID has accelerated is the sophistication of SWFs trying to build diversification and resilience into their portfolio - and hence looking for other asset classes and industries."

Sovereign funds have been more bearish on property than public pension funds, another big investor in the sector, Global SWF found. While they have outstripped the pension funds in overall investment across most industries and assets this year, by two to one, that ratio is reversed for real estate.



Funds are nursing hits to their existing property portfolios stemming from the introduction of lockdowns and social-distancing restrictions. While other parts of their portfolio, such as stocks and bonds, have rebounded from March's trough, a real-estate recovery is less assured.

Property capital value globally is expected to drop by 14% in 2020 before rising by 3.4% in 2021, according to commercial real estate services group CBRE. Analysts and academics question whether the pandemic's impact may prove long-lasting, with more people working from home and shopping online.

"I think there's a real threat to some commercial business districts in the big cities as I can't see us all return to the 9-to-5 schlep in, schlep out," said Yolande Barnes, a real-estate specialist at London university UCL.

The value of property assets of some funds has fallen in 2020, with those experiencing the biggest drops including Singapore's Temasek Holdings and GIC, Abu Dhabi Investment Authority (ADIA) and Qatar Investment Authority (QIA), according to data compiled for Reuters by industry tracker Preqin.

Those four funds have collectively seen the value of such assets drop by $18.1 billion to $132.9 billion, the data showed.

Reuters was unable to confirm whether the fall was due to lower valuations or asset sales. The funds either declined to comment or did not respond.

Many sovereign funds do not publicly disclose data on property investments, with Norway's one of the exceptions.

The Norwegian fund, which has around $49 billion invested in real estate, up from $47 billion at the end of 2019, said last week its unlisted property portfolio returned minus 1.6% in the first half of 2020.

Sovereign funds have also largely steered clear in 2020 of new direct investments in London or Los Angeles, hotspots in normal times, according to property services firm Jones Lang LaSalle (JLL), which said SWFs were "on the defensive".


The funds' advance in logistics properties, such as warehousing and goods distribution centres, comes at a time of high demand as people have bought everything from toilet paper to trainers from home during lockdowns.

So far this year, logistics have accounted for about 22% of funds' real-estate investments by value, compared with 15% in 2019 as a whole, the Global SWF data shows.

Meanwhile, investments in offices have fallen to 36% from 49% last year, and in retail property to zero versus 15%.

Marcus Frampton, chief investment officer at the Alaska Permanent Fund Corporation (APFC), told Reuters that real-estate deal volumes had "slowed down substantially" in general, but that, anecdotally, he saw activity in industrial facilities like logistics and "multi-family" apartment blocks.

The wealth fund's holdings have risen to $4.7 billion, up from $4 billion at the end of June, after the purchase of multi-family and industrial REIT stocks on July 1, Frampton said.

"Commercial warehouse activity is strong," he added.

In a sign of the times, Temasek participated in a $500 million investment in Indonesia-based e-commerce firm Tokopedia in June.

In contrast, physical retail, a significant part of many funds' holdings, has been hit hard. QIA-owned luxury retailer Harrods in London has reportedly forecast a 45% plunge in annual sales, as visitor numbers plummet. Many other retailers have sought to renegotiate rents.

The outlook appears brighter for some fledgling sectors such as biotech, which has come to the fore during the pandemic.

"We have seen significant demand for life sciences space. That's ranged from office to specialist lab and warehouse space," said Alistair Meadows, JLL's head of UK capital markets.



The U.S. office market is expected to face its first year since 2009 of more space becoming vacant than leased, according to CBRE.

Still, investors are betting on a rebound of sorts in some quarters. For example, Canary Wharf Group, partly owned by the QIA, unveiled plans last month for a large new mixed-use development, including business space, in London's financial district.

And while hotels face huge challenges, occupancy rates are expected to rebound near to pre-COVID levels - but not until the end of 2021.

The Libyan Investment Authority has experienced problems with the operating expenses of some of its properties, including some hotels in Africa owned by its subsidiary, Chairman Ali Mahmoud Hassan Mohamed told Reuters.

But it remains committed to its real-estate portfolio, estimated at $6.6 billion in its latest valuation in 2012, as it was able to restore its value, he said.

Crises can also present opportunities, however.

In the aftermath of the pandemic, some funds may look for bargains as distressed properties emerge.

The Hong Kong Monetary Authority, which operates a fund, told Reuters it would "closely monitor market conditions with a view to capturing appropriate opportunities".

And in an uncertain world, some academics argue that property remains a solid bet for savvy investors.

Barnes of UCL said sovereign funds could be "lighter on their feet" than some other institutional funds and more able to adjust their behaviour to suit changing circumstances.

"Real estate is one of the better sectors to be in, in a world of turmoil," she added. "But it's very much about picking the right real estate." 

Indeed, you have to pick your real estate sectors very carefully these days.

Real estate is an important asset class for sovereign wealth funds and global pension funds.

The pandemic has really shook this asset class to its core. In May, I wrote a huge comment on why I believe there is a paradigm shift going on in real estate

In a nutshell, working from home (WFH) might become the new normal and the world's leading technology companies are setting this new trend. Why? Not just for health reasons, it also allows them to provide more flexibility to workers and hire the best and brightest no matter where they live.

What else? They can significantly reduce their carbon footprint, something all tech companies are committed to doing, especially a behemoth like Amazon which wants to be carbon neutral by 2040.

Tech companies are so powerful that they set trends and that places pressure on global sovereign wealth funds and pensions to invest in a way that takes these trends into consideration. 

Is working from home for everyone and will it be permanent? Of course not but mark my words, no matter what Bruce Flatt or any other powerful real estate investor says, working from home is here to stay in one form or another and global investors would be foolish to think otherwise.

Are retail shopping malls dead? No, of course not. Today, we learned the FDA authorized Abbott’s fast $5 COVID-19 test and airline, cruise line, casino stocks and REITs all jumped on the news.

It's a bit silly, I'm not so sure this test is as accurate as they claim but it shows you how the market is ready to pounce on any good health news to buy these beaten down sectors.

All this to say, there will be a vaccine, better tests, better health measures and people going stir crazy at home will venture off to their local mall wearing a mask and practicing social distancing.

But will we see pre-COVID-19 volumes? No chance, a huge subset of the population will continue to avoid malls like the plague (I avoided them like the plague pre-COVID so my behavior won't change although lately I've fallen in love with Home Depot and feel like a kid in a candy store going up and down the aisles there).

As far as real estate trends, logistics is a very hot sector right now, perhaps a bit too hot judging by the $2 trillion market cap of publicly traded logistics stocks.  

Earlier this week, I discussed how CDPQ's real estate subsidiary, Ivanhoé Cambridge, along with LOGOS, acquired a strategic development site in Broadmeadows, Melbourne.

I mentioned how Ivanhoé Cambridge is playing catch-up to CPP Investments and other large Canadian peers which are more exposed to Industrial properties.

Following that comment, Michel Leduc, Senior Managing Director & Global Head of Public Affairs and Communications at CPP Investments, sent me some information on their sector breakdown for Real Estate, Infrastructure and Real Assets:

Real Estate:


Real Assets:

I thank Michel for sharing this information with my readers and it shows you even though CPP Investments has 29% in industrial properties (logistics), it still has a significant exposure to Retail (23%) and Office (29%). 

Interestingly, CPP Investments also has 12% in Ports and Airports (I think it's mostly ports) and 57% in toll roads (owns a controlling interest in Highway 407, it's most significant infrastructure investment).

As I discussed yesterday when I went over Gatwick's woes, the pandemic is wreaking havoc on transportation infrastructure assets, some more than others, and it will impact Canada's large pension funds.

Still, unlike retail real estate, they will stay the course with airports, ports and toll roads, betting the long term secular trend remains intact.

CPP Investments' CEO Mark Machin is on record stating they "like airports"  and he hopes the CPP Fund can one day buy big stakes in Canada's major airports.

Now, getting back to sovereign wealth funds, they have more money than CPP Investments and all of Canada's large pensions put together but they are struggling to invest all these trillions across public and private markets during these unprecedented times.

In public markets, Reuters reports sovereign wealth funds are stampeding into stocks outside the US:

Sovereign wealth funds poured a net $7.1 billion into stocks during the second quarter, the most in several years, with the bulk outside the United States, data showed on Thursday.

The funds also pulled a net $5.2 billion out of fixed income during that period, the most since the first quarter of 2019, according to the eVestment data on strategies managed by third-party fund managers.

Global large-cap growth equity strategies took in the most investment during the quarter, a net $6 billion. U.S. equity strategies pulled in only a net $704 million during that time.

That was far short of the flows into U.S. equities in the first quarter as the coronavirus spread around the world.

"We're seeing the sovereign wealth funds doing quite a lot of active search activity now in international equities, equities excluding U.S.," said Matthew Williams, head of institutional sales in Europe, the Middle East and Africa at Franklin Templeton.

"There is usually an increased allocation to equities as a hedging mechanism, given the historical negative correlation between equities and oil prices, and I think that's evident in what the oil-dependent sovereign wealth funds have been doing."

Aversion to U.S. stocks might be due to valuations as price-to-earning ratios run at around 29 times amid the S&P 500's push to fresh highs, as well as uncertainty about the outcome of the U.S. election in November, said Williams.

"Institutional allocators are keeping some of their powder dry on the U.S. equity allocations at the moment," he said.

Stock investments in public and private markets have contributed to the proportion of sovereign funds' direct listed deals compared with unlisted ones reaching 50% so far in 2020, the highest level since at least 2014, according to International Forum of Sovereign Wealth Funds (IFSWF) data.

"We have seen more direct investments in public markets and this was partly skewed by large investments Saudi Arabia's PIF (Public Investment Fund) has made in U.S. equity markets in Q1 and they've since sold some holdings, which may explain some of the outflows in the data," said Enrico Soddu, IFSWF's head of data and analytics.

The biggest investor in global equities is Norway's sovereign wealth fund. 

The world’s largest sovereign wealth fund lost 3.4%, or 188 billion kroner ($21 billion), in the first half of the year, and is embroiled in a CEO scandal of sorts:

The world’s biggest wealth fund said it’s eager to get clarity on who will lead it, after a botched recruitment process to find a new chief executive triggered a political storm that’s still playing out.

Norges Bank Investment Management on Tuesday revealed a $21 billion loss for the first half of 2020. The result caps a turbulent period that’s been overshadowed by a CEO succession drama.

“It’s now been almost a year since Yngve Slyngstad announced his resignation” as the fund’s CEO, Trond Grande, his deputy, said by phone after a press conference in Oslo. “Everyone’s looking forward to getting clarification and a new leader in place.”

“This situation has come on top of the challenging handling of a pandemic,” he said.

Grande stood in for Slyngstad on Tuesday, after the outgoing CEO skipped what would have been his final set of results after 12 years at the helm.

The giant investment vehicle has landed at the center of a political uproar after a London based hedge-fund manager, Nicolai Tangen, was picked as its new CEO.

The central bank, which manages the fund, has met fierce criticism for its handling of Tangen’s recruitment. Its watchdog says the bank failed to eliminate potential conflicts of interest relating to Tangen’s personal wealth and to adequately address his firm’s use of tax havens. What’s more, Tangen never appeared on an official list of candidates.


Slyngstad was himself briefly tainted by the drama after it emerged that he’d accepted a luxury flight paid for by Tangen. An internal probe found Slyngstad didn’t breach compliance guidelines, while acknowledging a review of the fund’s standards was needed. Slyngstad wasn’t involved in his successor’s selection.

Norway’s biggest opposition party, Labor, recently said it now opposes Tangen’s appointment, after the central bank’s watchdog questioned the legality of the hiring process. Other smaller parties in parliament have also voiced criticism.

Tangen is still set to replace Slyngstad on Sept. 1, though it’s now unclear whether the government might be asked by parliament to get involved and possibly postpone, or even halt, the transition. Grande said the plan remains that Tangen will start at the beginning of next month.

“What’s been important for us is to continue the important job we have been given, and try to not spend too much time and effort on what we can’t do anything about,” he said.

Investment Returns

Norway’s sovereign wealth fund lost 3.4%, or 188 billion kroner ($21 billion), in the first half of the year, it said on Tuesday. At the press conference, Grande said the fund’s performance since the end of June means it’s now managed to roughly break even overall for the year to date.

Whoever runs the fund, which was set up in the 1990s to invest Norway’s oil income into foreign securities, will continue the historic asset sales started this year to cover the government’s need for stimulus cash. Withdrawals reached a record 167 billion kroner, or $19 billion, in the first half, the fund said on Tuesday. It’s so far relied on bond sales to cover the cost, Grande said.

Stocks were the fund’s worst investment in the first half, losing almost 7% overall. Unlisted real estate also fell while fixed-income holdings rose. The investor held almost 70% in equities, just under 3% in real estate, with the rest going into fixed income.

For the second quarter alone, the fund saw an 18% rebound in its stock portfolio, leading to an overall return of 13.1%. That’s close to the record 13.5% it reported for the third quarter of 2009, when equities bounced back from the financial crisis.

The fund’s biggest holdings were in Microsoft Corp., Apple Inc., and Alphabet Inc., with its technology portfolio returning 14.2% overall in the first half. Financial holdings fell 20.8%.

Oil and gas stocks slumped 33.1%. After a proposal in 2017 to exit the asset class completely, the fund was only allowed to sell pure crude explorers and producers. This divestment, valued at less than $6 billion at the time of the decision last year, is well under way, and the fund’s holdings in that sub-category are now “insignificant,” Grande said.

Boy, we haven't seen so much governance drama in Norway ever.

I chuckle because Norway recently warned its citizens to avoid traveling to Greece, saying Greece is not a safe destination.

The irony is Norwegians, Danes, Fins, Germans, Dutch and Swedes generally believe Greece is a Banana Republic full or corruption. I can say the same about Canadians as Conservative Parliament member Pierre Poilievre recently called out Greece and Pakistan as "the most corrupt countries in the world." 

Hey, buddy, look at your own backyard, Canada is just as bad if not worse than Greece when it comes to corruption except we like to think we are better than everyone.

Norway has a reputation for being one of the least corrupt countries in the world. That’s partly thanks to the stabilizing influence of the oil fund, which was set up in 1996 when the Norwegian government realized that the liquid gold that had turbocharged the country’s economic development since its discovery in 1969 would eventually run out.  

It now has to address this governance lapse in an open and transparent manner. I'm not questioning Nicolai Tangen's qualifications or motives, he has his reasons for leaving his high octane hedge fund to lead Norway's wealth fund but the drama has to stop, it's tarnishing the Fund and is making Norway look really, really bad.

Anyway, enough on that topic, hopefully it will be settled shortly. 

Below, Sam Zell, chairman of Equity Group Investments, joins "Squawk Box" to discuss the state of the real estate market amid the pandemic. 

And Related CEO Jeff Blau joins "Squawk Box" to discuss why he's calling for offices to reopen in New York in his latest Wall Street Journal op-ed. I agree with his concerns but think he's dreaming if he thinks most workers will return to New York City before they get vaccinated and even then, it won't be a mass return to the office.