14 June 2023, Amsterdam – The INREV Quarterly Fund Index once again highlighted weak performance for European non-listed real estate in Q1 2023, as governments tried to curb inflation and ongoing economic uncertainty continued to impact European real estate pricing and investor confidence.
With a total return of -0.97% in Q1 2023 – this marked the third consecutive quarter of negative fund-level performance for European real estate. Capital growth declines were driving negative performance, however the pace of repricing slowed down significantly, with seasonal and valuation effects playing a role.
Despite an overall decline, capital growth reached -1.47% for the quarter, a notable increase when compared to the -7.23% recorded for Q4 2022, according to INREV Quarterly Fund Index. This comes alongside some positive news on the EU economy, with 2023 GDP growth revised up from 0.8% to 1.0%, according to European Commission.
UK real estate prices appear to stabilise
After shedding more than 19% of market value in the second half of 2022, the UK has seen prices steady, recording a negative capital growth of just -1.11% and a total return of -0.02%, according to the INREV Quarterly Asset Level Index. However, it is too early to reference the bottom of the cycle for the UK, especially given the flat economic outlook and with Q1 2023 GDP growth below pre-Covid levels.
Continental Europe continued to correct, with all major markets reporting negative Q1 2023 asset-level performance, driven by further capital growth declines. The Netherlands once again recorded the weakest performance, with a total return of -3.62%, albeit an improvement from the -5.36% in Q4 2022. Further discussions on the regulations of the Dutch residential market also negatively impacted the short-term sentiment and Q1 2023 performance.
Better news came for the French assets, which delivered a total return of -1.55%, up from the -4.19% recorded in the fourth quarter, with a quarter-on-quarter increase of 264 bps. Meanwhile, Germany reported a modest increase from -4.06% in the previous quarter, to -1.13% in Q1 2023, with a quarter-on-quarter increase of 293 bps.
Offices suffer weakest performance
Office assets saw the weakest performance across most markets in Q1 2023, including in the UK where the sector stayed firmly in negative territory with -1.74%. The dispersion in office performance is notable, with Q1 2023 returns ranging from 4.44% for the 90% percentile to -7.69% in the 10th percentile, alongside 1.67% for the UK and -5.59% for continental Europe. This bifurcation demonstrates varying degrees of risk and the growing gap in performance between environmentally efficient Grade A properties and secondary assets in danger of becoming obsolete if capital expenditure is not put into place to help them become more carbon neutral.
Retail posted positive returns in Q1, with UK retail assets making a substantial recovery with a total return of 1.21%. This is perhaps unsurprising, given the twelve consecutive quarters of correction between Q2 2018 and Q1 2021. On the continent, the sector’s performance was mixed, with French and German retail assets posting negative performances of -1.79% and -0.34% respectively.
Industrial/ logistics showed early signs of recovery, underpinned by strong fundamentals, and following a sharp correction during the H2 2022, both on the continent and in the UK. Pan-European industrial/logistic assets bounced back to -0.93%, from their record-low of -11.26% in Q4 2022. It is worth noting that the UK industrial/logistics asset-level returns moved back into positive territory with 0.47%.
Sentiment moves back into positive territory, but transactional market in a standstill
As confidence and plans to invest usually precede capital deployment, it is no surprise to see European transaction volumes decrease further in Q1 2023, totaling €35.2 billion. This is the lowest level since Q2 2012, when €31.5 billion was reported according to the latest data from MSCI.
However, the latest June sentiment 2023 results reveal confidence as well as investment plans returning into positive territory, likely driven by the correction in pricing and early improvement in the economic outlook for the EU – which may mean transactional market activity will pick up later in the year.
Investment sentiment towards the UK saw an improvement, with 26% of respondents indicating an intention to increase allocations on a net basis - marking a rise of 5%, since the last results were published in March 2023. No respondents are looking to decrease UK allocations. Sentiment towards the Netherlands and Nordics is also strong net positive, with 15% and 9%, respectively, intending to increase allocations to real estate.
Net sentiment turned positive for Spain and Portugal, with 6% for both markets, up from a net negative of -4% in both cases in March 2023. Sentiment towards Germany moved only marginally this quarter, turning positive to 3% (0% in March). Furthermore, net sentiment deteriorated considerably for France, down from 13% to 3%. Core CEE and Fringe CEE remain subject to net negative sentiment, with 19% and 20%, respectively, and investors continuing to plan for a decrease in allocations to their regions.
Iryna Pylypchuk, INREV’s Director of Research and Market said: “The latest results show an ongoing correction, albeit a notable improvement on the Q4 2022 results. However, this should be taken with a pinch of salt given a very ‘’sleepy’’ transactional market, as well as seasonal and valuation effects.
Only once there is more transactional evidence, can we speak with more certainty on the state of the market. The pricing discovery continues, alongside geopolitical instability, and broader financial and economic risks, which make it even more difficult to foresee the depth and the duration of the current correction. If the Global Financial Crisis is a reference to judge by, we may expect a few quarters of temporarily lull before further corrections take place.”