In the run up to the Global Financial Crisis (GFC) Asia Pacific experienced a boom of new real estate funds driven by a heady mix of liquidity, capital market fundamentals and expectation of high risk-adjusted returns.
Now—based on the typical fund life of eight years—CBRE predicts that approximately 84 Asia Pacific funds will terminate between 2013 and 2016, with disposition activity expected to peak between 2015-2016.
CBRE’s latest report The Great Wave of Fund Expiration examines the effects of this shift.
The Build Up to the Global Financial Crisis
Fund activities from 2005-2008 created a high water mark for capital raising and investment, with CBRE data showing that approximately US$91 billion of capital raised by private real estate funds in the region during the period.
This is almost triple the approximately US$32 billion raised in the following four years, 2009-2012. Capital raised in 2005-2008 created a large pool of liquidity in the Asia Pacific direct investment market, and record investments; with private equity funds purchasing US$32 billion of assets in 2007 alone.
These funds were primarily focused in the opportunistic risk segment and showed a strong preference for assets in major markets in the Asia Pacific region, in particular Australia, Japan and China—assets that with the onset of the GFC saw significant impact on their value.
The CBRE Asia Pacific All-sector Capital Value Index declined by 20 per cent within in a year, between Q2 2008 and Q2 2009. Capital values in Japan dropped nearly 40 per cent while capital values in Australia dropped around 20 per cent during the same period. Capital values later rebounded but remain below pre-global financial crisis levels in a number of markets.
Disposition Activity Set to Peak
Based on the typical fund life of eight years, CBRE believes that approximately 84 funds are set to terminate between 2013 and 2016. CBRE analysis of these fund’s characteristics reveals that there will be a peak of fund termination in 2015 and 2016, when approximately 50 funds with a gross asset value (GAV) of about US$40 billion will expire.
Ada Choi, Senior Director, CBRE Research
said the disposal process typically starts two to three years prior to the termination date, and has been underway in Asia Pacific since 2010.
“Only a handful of fund managers have fully divested their positions well ahead of the fund life, as they recorded significant returns during the investment period,” she said.
“Among them, 91 per cent are closed-end funds which by design have a fixed life span, meaning that the timing of an exit is crucial.
“Funds are drawn when opportunities meeting the fund strategies’ terms are identified by the fund manager and are returned at the end of the fund life.
“As a consequence, the discipline and skill of the fund manager to administer the fund formation, risk spectrum, term, investment process and subsequent divestment becomes the ultimate driver for performance.”
Challenges to Absorption
Given historical disposition levels and current investment appetite, CBRE forecasts that the market will only be able to absorb around 75 per cent of the liquidity created by the disposals of closed-end funds scheduled to expire in 2015 and 2016.
However, this estimation depends on various factors, such as ongoing investment sentiment, the fund raising environment and the participation of institutional investors. There are also different levels of challenges for successful disposals depending on the location and quality of the portfolios.
According to CBRE’s research, the shortfall between the potential liquidity of funds ending their lifespan and the market’s ability to absorb these assets will be around US$10 billion in the coming two years.
However, CBRE also believes that the wave of potential disposals by funds will not exert a significant shock to the regional real estate market.
Nick Crockett, Executive Director, CBRE, Capital Advisors, Asia Pacific said the combined effects of a wave of fund dispositions and a market with a limited capacity to absorb them, has critical implications to fund managers over how they should position their funds and the options they should consider beyond termination.
“These assets could therefore face difficulties in finding buyers or being disposed of at desirable terms,” he said.
A review of the assets available for disposal by real estate funds entering the termination phase shows that around 65 per cent are in China, Japan and Australia. CBRE expects that the market conditions in these markets will affect the exit route for funds in the following ways: