From Hagen Ernst, Deputy Head of Research & Portfolio Management at DJE Kapital AG

All that glitters is not concrete gold

Crises like the one triggered by the Corona virus test the resilience of many industries and companies, including the real estate sector. They make problems visible that may have been present before, but were not noticed or ignored during the boom. Hagen Ernst analyses where the risks but also the opportunities for real estate investors are to be found.


For one thing, in view of the high NAV discounts, the market is already anticipating a sharp drop in property prices. For another, the resulting reduced price level offers more potential for subsequent price increases. Sharply falling real estate prices have so far only been seen in the case of a high real estate oversupply, for example during the financial crisis in 2008 - above all in Spain and the US. Before Covid-19, on the other hand, the vacancy rates in all property classes worldwide were at a low level. Nevertheless, the risk should not be underestimated. Falling rents, rising financing costs due to higher credit default risks and historically low real estate yields could lead to a downward spiral. For this reason, the focus should be on real estate assets with high-quality portfolios and the lowest possible debt level measured in terms of portfolio loan-to-value (LTV).

The crisis as an accelerator for a worldwide falling rent level

Opportunities and risks are highly dependent on the type of property. The situation is particularly difficult for retail properties. Increased online trading brings traditional retailers under pressure, with some retail spaces having closed in recent years. In the US, where Amazon dominates online retailing with a market share of almost 40 percent, almost 10,000 shopping centers closed their doors in 2019 - an increase of 58 percent to the previous year. According to CBRE, rents in the fourth quarter of 2019 fell 7.2 percent in the US and almost 3.4 percent worldwide. Only Europe still recorded an increase of 1.1 percent. It remains unclear how many stores will survive the current crisis. In addition, landlords, real estate companies and investors should expect significantly lower rent levels in the wake of the Corona crisis. In Hong Kong, for example, rents are already discounted by up to 50 percent on new leases. In Great Britain, the valuations of shopping centers dropped by 30-35 percent within three years. A scenario that could now threaten the whole world.

Online shopping continues to trouble stationary retail

The already existing trend towards online shopping should now become even stronger: COVID-19 acts like a fire accelerant for the classic retail trade. Thus, vacancy rates in this part of real estate are expected to rise significantly. Many already weakening businesses and shopping centers will very probably not be able to survive and will have to close permanently. However, the discounts for retail property values are particularly high, generally 50 percent and more. Nevertheless, even in this asset class, there could still be entry opportunities - provided the portfolio is of high quality and the debt is not too high. For example, Unibail owns shopping centers in good locations, especially in France and Spain. These were well frequented before the Corona crisis and store sales even rose by 1 to 2 percent, despite increasing internet trading. Although debt is currently solid, with a loan-to-value ratio (LTV) of 39 percent, it is still too high to be considered a risk. However, in an extreme scenario with a negative revaluation of -35 percent, the LTV ratio would rise to just under 60 percent - and the net asset value would fall from just under 200 euros to 83 euros. This example illustrates how sensitively NAV and LTV react to low property valuations.


Office properties: greater flexibility in demand worldwide

Office properties will also have to struggle worldwide with falling property prices and declining rents. The asset class is particularly cyclical and some office space will no longer be needed as a result of increasing insolvencies. Vacancy rates are therefore likely to rise worldwide. After all, there was a certain supply shortage before Covid-19, which should now help in the downturn phase. According to CBRE office rents worldwide still rose 2.8 percent in the fourth quarter of 2019. In the US it was even 5.8 percent and in Europe 2.2 percent - only in Asia the figures stagnated at just +0.6 percent. In Singapore, however, rents have already fallen by 0.8 percent in the first quarter of 2020 while office property prices have fallen 2.3 percent.

In Europe London and Madrid react particularly cyclical. In the wake of the financial crisis in 2008 rents in prime locations in London fell from GBP 80 to GBP 50 and in Madrid from EUR 40 to EUR 28 per sqm per month. It took London until 2015 to return to pre-financial crisis levels, while Madrid has reached this level only now. Office rents in London have already come under pressure by a good 10 percent as a result of the looming Brexit. It is quite possible that both London and Madrid will test the lows that they have reached after the financial crisis, especially as both countries have been hit particularly hard by Covid-19 economically.

Rents in Frankfurt and Amsterdam remained relatively stable, while rents in Milan and Stockholm developed particularly well over the past 30 years. The potential for setbacks could be all the greater here since Covid-19 has been particularly strong in northern Italy, while Stockholm was heavily overheated with a rent increase of over 50 percent within three years. However, not all rents are currently being paid. One of the worst affected countries is Great Britain, where between 20 and 30 percent of office rents for listed property values such as British Land, Derwent or Great Portland have to be deferred. At Aroundtown, the largest listed lessor of office property (primarily in Germany), around 4 percent of March rents and 10 percent of April rents were not paid. In view of a possible wave of insolvencies flexible use of office space is therefore important. At Aroundtown, for example, 90 percent of the office properties are not used by one but by several tenants. Splitting up the property into several smaller office spaces significantly improves lettability. Larger areas are particularly difficult to let in times of crisis.

Residential real estate market in Germany remains stable

Residential real estate is considered to be particularly crisis-resistant. In view of current measures such as the short-time working allowance and a high level of social security, a large number of tenants, particularly in Germany, should be able to continue paying their rent. Vonovia, for example, the largest owner of residential property in Germany, expects a loss of rent of only two percent at most. So far, only one percent of tenants have applied for financial support. Rental growth has remained between one and two percent p.a. over the past 20 years, regardless of the economic situation. There have only been rent increases of 5 percent or more in some highly sought-after conurbations such as Berlin, Frankfurt or Munich as a result of the increasing shortage of housing. However, in view of the impending deep recession, rent increases will tend to be a thing of the past even there.

Are rental caps necessary?

Taking this into account the Berlin rent cap might not be necessary at all to stop the increase of rents. The real estate company Deutsche Wohnen holds 76 percent of its portfolio in Berlin. With the introduction of the rent cap last year the share has accordingly come under strong pressure. It is listed well below NAV as the market expects rents to fall. The portfolio quality, on the other hand, is good and debt is low. The prices of German portfolio holders are mostly quoted below their fair value (NAV). This means that the market expects property prices to fall. Whether there will be a correction remains uncertain. Apartments remain in short supply and interest rates are likely to remain low for some time to come. Although prices increased partly drastically, especially in the sought-after conurbations, there had not been any price rise during the preceding decades.

On balance, prices in Germany rose much more moderately over the next 50 years than in neighboring European countries. In an international comparison German real estates are therefore relatively affordable. According to a study of Deloitte a 70sqm apartment in Germany costs "only" five times the average annual salary. Only in Denmark and Belgium properties are even more affordable.

Hotel industry with medium-term turnover losses

The anti-corona measures brought the travel industry down to zero. As a result many hotels around the world fear for their existence. Hotel properties are therefore likely to come under greater pressure even though leasing agreements generally have a long-term term of 15 years. It will therefore be important for tourism to be able to restart as soon as possible. However, the high occupancy rates of the period before the Corona crisis are unlikely to return for the time being. In addition, many lucrative business customers who now maintain their business relations virtually worldwide are likely stay absent. This will lead to lower demand in the long term. All in all, it will probably take at least two years before hotels can return to their old revenue levels.

Warehouse and computer centers as particularly attractive properties

Two types of industrial properties are of particular structural interest. On one hand, there is an increasing demand for storage centers from the online trade. Large players such as Prologis or Segro are therefore even quoting above their NAV. On the other hand, the demand for computer and data centers which have been strong already before Corona is increasing. These centers require for example a special cooling therefore it is important for the tenants to keep them in operation. Providers such as Digital Reality Trust and Equinix from the US have the highest market capitalization and are also quoted above NAV.

Conclusion: A differentiated picture requires qualitative analysis and selection

Some real estate stocks are currently trading at a significant discount to NAV, which in the past led to above-average price gains in the subsequent period. Retail real estate and hotels are currently particularly at risk but opportunities exist for warehouses and computer centres, among other things. German residential real estate should prove to be particularly crisis-resistant. Given the good social security system in Germany, only a few tenants should find themselves in such financial difficulties that they will be unable to pay their rent on a permanent basis.

Investors should focus on stocks with good real estate portfolios and low debt. A precise analysis and selection - especially for particularly difficult asset classes such as hotels and retail properties - is important. After all: Not every real estate company will survive.


Note: All information published is for your information only and does not constitute investment advice or other recommendation. Long-term experience and awards do not guarantee investment success. Securities are subject to market-related price fluctuations which may not be compensated for by the active management of the asset manager or investment advisor. This information cannot replace a consultation. All information has been provided with care and to the best of our knowledge at the time of preparation. Despite all due care, the data may have changed in the meantime. Further information on opportunities and risks can be found on the website The sales prospectus and further information are available free of charge in German from DJE Investment S.A. or at The fund management company is DJE Investment S.A. DJE Kapital AG is the distribution agent.