Emerging Trends in Real Estate®: Asia Pacific 2023

What are the expected best bets for investment and development in 2023?

Cap rate

Cap rates will move out
havens

Investors seek defensive havens
risk

Rising risk hits development projects
assets

Mainstream assets become less popular

Emerging Trends in Real Estate® Asia Pacific 2023, is a trends and forecast publication undertaken jointly by PwC and the Urban Land Institute. Now in its 17th edition, the report provides an outlook on real estate investment and development trends, real estate finance and capital markets, property sectors, metropolitan areas, and other real estate hot topics throughout the Asia Pacific region.

Based on personal interviews with and surveys from 233 of the most influential leaders in the real estate industry, this forecast will give you a heads-up on

How investors are positioning for a post-COVID environment;
What to expect and where the best opportunities are;
Trends in the capital markets, including sources and flows of equity and debt capital;
Which property sectors offer opportunities and which ones to avoid;
How the economy and concerns about credit issues are affecting real estate;
Which metropolitan areas offer the most and least potential;
The impact of social and geopolitical trends on real estate, and;
How geographical and sectoral preferences are changing

"The persistence of fragmented market conditions has enabled Singapore and Tokyo to retain their top spots as the cities with the brightest investment prospects although the factors augmenting each city do markedly differ. When exploring opportunities in the region, investors should take a more cautious approach on new asset purchases in some Asian markets and pivot their focus from conventional asset classes towards a variety of niche areas that offer brighter outlook. This includes defensive havens and new-economy themes, which are likely to divert the attention away from mainstream assets such as the office and retail sector, that have traditionally been popular."

Stuart PorterAsia Pacific Real Estate Tax Leader

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Emerging Trends in Real Estate®: Asia Pacific 2023

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Although 2022 saw most Asia Pacific markets—with the exception of China—begin to shake off the effects of regional COVID restrictions, as investors look to 2023 they find themselves confronted with a different, but no less dangerous, set of threats: high inflation, rising interest rates, unsustainable levels of public- and private-sector debt, and an impending global recession.

This stagflationary combination creates an environment for which there is no modern-day playbook, and led many real estate investors in the second half of 2022 to step away from the market and wait for events to play out. As a result, third-quarter Asia Pacific transactions fell 38 percent year-on-year to a 10-year low, according to analysts MSCI.

In the end, though, investors will have to adapt to a new market reality that brings with it a number of fundamental changes.

Cap rates will move out

Years of cheap and easy liquidity have had a predictable effect on real estate, causing asset prices to soar and yields to compress. But as rising interest rates now begin to revert to mean, property yields must rise with them in order to maintain a spread over the cost of debt. This process has so far been slow to occur in Asia Pacific markets, although both Australia and South Korea are beginning to see a degree of cap rate expansion. In the end, though, many interviewees expect regional cap rates will rise an average of 100 to 150 basis points in 2023. One exception may be Japan, which is expected to maintain its ultra-low interest rate environment—Japanese cap rates should therefore remain relatively stable, making Tokyo a magnet for foreign investment funds.

Defensive havens

Investors seek defensive havens. Investors have begun realigning strategies in favour of more defensive property types, focusing in particular on features such as rent indexation, shorter lease terms that can be revised upwards more easily, and reliable recurrent income. The “bed space”—including subtypes such as multifamily, hotels, senior living, and student housing—is one such sector. Logistics, where structural undersupply will continue to underpin demand, and where rent typically is a relatively smaller part of the overall cost of business, is another. Specialist asset classes such as data centres, cold storage, and life sciences, meanwhile, have “sticky” qualities as well as long index-linked leases and generally high rents.

Rising risk

Rising risk hits development projects. Build-to-core strategies became popular in recent years as a way to manufacture new product in an environment with an overall shortage of high-quality building stock. But with construction costs and interest rates rising and a weak outlook for occupier demand, many new projects have been put on hold.

Mainstream becoming less popular

Mainstream assets become less popular. Offices have always been the biggest recipients of regional investment capital, but questions over occupier demand, especially as remote-working practices continue, have eroded their popularity. Demand continues to be strong, however, for modern, high-quality buildings that are in demand by occupiers looking to lure staff back to the office. Investors are also rotating out of the retail sector and into new-economy themes such as logistics, although retail yields and values have rerated to such an extent that a growing number of investors are looking at prime, well-located retail assets as contrarian plays.

Most Problematic Issues for Real Estate Investors

The most problematic No.1 answer—predictably— was interest rates, which are making deal financing increasingly difficult at current pricing levels. The fact that the same issue ranked only third from bottom in last year’s survey illustrates not only how quickly rate hike concerns have escalated, but perhaps more importantly how their ascent has blindsided the market. Given this, more than a few investors are now revisiting deal underwriting to see if numbers still add up in a fast-changing investment landscape.

Property Outlook

Individual asset classes, meanwhile, are still in the process of often profound change.

Office
Logistics
Retail
Residential
Hotels

Office

Over the long term, offices will continue to be the go-to asset class, although their star has dimmed for the time being as investors come to grips with the dynamics of new-normal demand—how much space is needed, where should it be located (Central Business District or suburbs?), and what types of fitout are required by occupiers in the evolving universe of hybrid workspaces?

Logistics

Ongoing structural shortages of logistics space across the Asia Pacific show no sign of ending, especially as online retailing continues to grow exponentially. But rapid cap rate compression seen in recent years has left many investors wondering if the industry has come too far too fast, especially with interest rates rising to a point where margins are now almost nonexistent. Still, with new capacity backlogged, demand for space will continue to be relentless, while strong rental growth should soon re-establish yield spreads without undermining capital values.

Retail

Transaction volumes dropped off in 2022, reflecting diminishing interest among mainstream investors for conventional retail assets, although nondiscretionary subtypes continue to find favour. Over the long term, however, well-performing assets in good locations will continue to be successful, and margins should begin to improve once landlords and tenants are able to find a successful formula to reimagine assets in ways that work to their mutual benefit.

Residential

Multifamily build-to-rent development has mushroomed in Asia Pacific markets recently as global institutional investors target the sector for its long-term, reliable income streams and short-term rentals that can be easily reset to accommodate inflationary pressures. Japan has long been the only institutionalised market in the region, but foreign investors are now also looking to Australia and China to host new multifamily markets. Doubts persist in some quarters, however, due to questionable demand and aggressive underwriting that has created ultra-compressed cap rates—a strategy that could backfire if rising interest rates continue to erode margins.

Hotels

Rebounding travel markets are finally offering relief to the long-suffering hospitality sector, although Asia Pacific tourist arrivals still lag significantly behind those in Western markets. While cash flows are now rebounding, however, debt levels remain high, and many regional hotel assets are still likely to trade at discounted levels. Investors are targeting Japan as a likely market for deals in 2023.

Markets to Watch

Mirroring the best performers from last year, 2023’s top markets for investment prospects in the region were characterised by deep, liquid markets and a flight-to-safety approach. Singapore, Tokyo and Sydney continue to rank as the top three markets.

As the COVID-19 pandemic significantly impacted China's property sector amid a challenging liquidity environment, Singapore has benefitted from the redirection of capital that might otherwise have been placed in assets in Chinese Mainland and Hong Kong SAR. Tokyo continues to enjoy a near-zero interest rate environment, which ensures lower borrowing costs and a more positive spread over the cost of debt. Despite the easing of COVID restrictions in Hong Kong SAR, its status as the most expensive commercial and residential market in the Asia Pacific has made it vulnerable amidst the current high-inflation recessionary environment.

TOP 10: CITY INVESTMENT PROSPECTS

Rank	City
1	Singapore
2	Tokyo
3	Sydney
4	Osaka
5	Seoul
6	Melbourne
7	Ho Chi Minh City
8	Shenzhen
9	Jakarta
10	Shanghai

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Emerging Trends in Real Estate®: Asia Pacific 2023