Steep decline in European real estate investment indicators points to sharp Covid-19 downturn in Q2

Property slowdown

Evidence is mounting that commercial real estate investment volumes in Europe will slide over the second quarter of 2020 as the economic and market shocks of the Covid-19 pandemic feed through into the fundamental data, hundreds of participants in a recent Real Capital Analytics webinar heard.

Tom Leahy, Senior Director EMEA Analytics at RCA, says: “The first data collected by Real Capital Analytics for April show cracks are starting to emerge in European real estate transaction volumes, as IMF forecasts indicate the coronavirus crisis will result in the worst recession since the Great Depression of the 1930s, with falling GDP, declining trade volumes, low consumer confidence and rising unemployment.”

Leahy added that the count of RCA-registered European investment deals was down 75 per cent in March compared with the same month of 2019, with smaller transactions, below the EUR100 million level, hit particularly hard. The number of busted deals and the time transactions are staying under contract are also rising quickly. 

Retail and office properties accounted for two-thirds of the broken deals, while relatively few industrial transactions were pulled. The UK had 16 failed deals in total compared with just one in Germany, where the market appears to be proving more resilient.

While RCA generally registers between 1,000 to 1,200 unique buyers in a normal quarter in Europe – in the month of April it registered only 150. The fall is particularly acute for cross-border investors who have been extending due diligence processes since lockdowns took hold across the continent and, like domestic buyers, have been unable to physically visit the assets they’re considering buying due to social-distancing rules.

After years of being outbid by global investors, more domestic investors and international players with a local presence in Europe are expected to make a comeback when the markets recover and the restrictions ease, particularly in the large, structurally more liquid, core markets.

Leahy says the Covid-19 crisis is very different to the Global Financial Crisis and the severe impact on European real estate investment a decade ago may not necessarily be repeated this time around, with a chance that parts of the market will emerge relatively unscathed. “However, the crisis is exposing and amplifying existing weaknesses and this gives us a guide for how the different parts of the market might emerge and in what condition.”

RCA’s European Capital Trends report shows that prices are falling in the retail sector and further declines are likely given the current stress in that market with prominent retailers across the continent entering bankruptcy proceedings. In some cases, tenants and owners are locked in a battle for survival, with almost diametrically opposing forces at play: tenants want to preserve cash in the face of the unknown and landlords require rents to service obligations to their lenders and other stakeholders. UK shopping centres, where prices have fallen 50% since 2014, are at particular risk. At the other end of the spectrum, the pricing of UK warehouses has risen by 25 per cent over the same period.

“The retail market is becoming increasingly polarised across the board and in Western Europe we’ve also seen a sharp divergence between the prices for the very large and smaller to medium-sized shopping centres in the past few years. We think it’s likely that smaller shopping centres will, on the whole, bear the brunt of store closures. The outlook for warehouses, on the other hand, is better than for other asset classes: rents and values are still expected to fall, but not as steeply as for retail.”

While it is still early to tell which European cities and countries will fare best in the deepening recession, Germany proved to be relatively resilient in April, accounting for more than half of all transactions in Europe. German institutional investors also moved to the fore last month and were involved in over 50 per cent of all transactions compared with a more usual average of 20 per cent.

Leady noted that commercial real estate markets with higher average liquidity, as measured by the RCA Capital Liquidity Scores, tend to be the first to recover their pre-crisis pricing. For example, Central London and Paris, the first and third most liquid markets in Europe, were two of the earliest to recover pricing after the GFC, each at 75 months. At the bottom of the scale, Dublin, Edinburgh, Brussels, Birmingham are still not at pre-GFC pricing levels. The liquidity scores reward markets which have larger investor bases, a heavy proportion of institutional capital and are attractive to cross-border buyers. Thus those markets that maintain these characteristics will see higher prices, he added.

Leahy says: “As investors, financiers and advisors seek to navigate liquidity during the current economic and financial turmoil, RCA’s Capital Liquidity Scores illustrate how markets behaved during the last global downturn. Other factors that provide a level of comfort to owners in these markets are that debt levels are lower than in the GFC, lenders are well capitalised, the market is not overbuilt, and investors are better informed and have more sophisticated tools with which to analyse and measure risk. And last but not least, property has an investment edge in this low interest rate environment.”