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Why Asian investors should consider European core logistics assets

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Here Maurizio Grilli, Head of Investment Management Analysis and Strategy at BNP Paribas Real Estate Investment Management, explains how the logistics property sector has proved to be a solid asset class, providing an attractive return profile over time.

Investment in logistics has increased considerably, as this property asset class has gained favour with investors, leading to more transparency and liquidity. Investment volume in European logistics was approximately €38 billion (US$43 billion) in 2017, a record high. Moreover, while investment in this sector represented about 8 percent of total commercial investment in 2012, this share mounted to 14 percent in 2017.

Asian investors should be attracted to European logistics because the sector offers relatively-interesting yields and provides steady rental income, while also having strong long-run fundamentals.

Logistics has been one of the best-performing property sectors, both in the medium and long term. Since the start of the pan-European MSCI series in 2001, total returns for the logistics sector have equalled 8.5 percent per year.

One of the most attractive features of logistics is high income return. The yield offered by logistics remains attractive to a number of investors, especially those with liability-matching mandates.

The historical spread over office yields has always been about 200 basis points. The progressive institutionalisation of the logistics sector, however, along with increasing liquidity, has reduced investors’ risk premium relative to other sectors. Indeed, in Europe the logistics-office yield gap in third quarter 2018 was roughly 150 points.

Strong cyclical and structural drivers

The drivers of demand for logistics space broadly can be defined as (a) cyclically-based and (b) structurally-based. In general, cyclical factors depend upon the fortunes of the economy, both at the global and local level. Structural factors, however, are related to modifications in trade patterns and chain reconfiguration from — among other things — changing demographics, technological innovation and changes in consumers’ purchasing habits, such as the progressive rise of e-commerce.

Macroeconomic drivers are often a starting point in analysing future demand for logistics space, as the relationship between GDP and logistics take-up is quite robust. In this sense, European logistics will continue to benefit as Pan-European trade, manufacturing and retail sales are all steadily growing.

A few important trends and factors affect the design of global supply-chain networks. The main ones are globalisation, urbanisation and e-commerce.

Globalisation

 The removal of barriers to the movement of all factors of production has made access to global sourcing alternatives possible and has sped up international trade. As a result, Europe has become the largest trade area in the world.

Urbanisation

Consumer preferences are driving the choice of the location for modern warehouses. As a result, operators need to conciliate between the choice of centralised hubs (characterised by developed transport networks) and other facilities adjacent to or within major population centres (driven by trends such as faster delivery times and retailer scale). An estimated three-quarters of European logistics leases are in urban conurbations with more than 1 million inhabitants. Within Europe, the most attractive areas are Benelux, Germany, select areas of France, the southern United Kingdom, the north of Italy, and the two major Spanish conurbations.

E-commerce

 One of the biggest trends affecting the logistics industry during the past 10 years has been the rise of e-commerce. E-commerce represented approximately 16 percent of all logistics take-up in Europe in 2017. The e-commerce industry is much more diverse than is normally thought. In Europe, the top 10 e-retailers account for about 12 percent of all online sales, with the top 500 accounting for approximately 30 percent of the total, according to Ecommerce News Europe. Most of the remaining sales are divided among smaller retailers, which use shared premises or are only starting to grow their own supply chains. These smaller retailers often tend to outsource the logistics activity to third-party operators.

The perception that e-commerce demand focuses only on large facilities is, therefore, erroneous, as demand ranges widely in terms of requirements and according to different factors, including the type of product and the retailer’s size and business model. Constant evolution drives a high variety of needs, ranging from large platforms to smaller urban units.

Overall, e-commerce is supportive of long-term demand for the whole logistics sector, for new and existing warehouses alike. Indeed, we should not forget the core of lease transactions is still composed of traditional retailing, trade and manufacturing as, for example, the automotive industry in Germany and food retailers in France.

Why European logistics now

Capital values for European logistics are still roughly 20 percent below their 2007 peak. As a result, we believe there still is significant catch-up potential for this sector. Values are still about 15 percent below the peak in “core” countries, such as Germany and France, while in Spain they are almost 30 percent below their highest value, recorded in 2007.

Take-up in the European logistics market has improved every year since the lows of 2009. In addition, the trend to outsource logistics activities is leading to more leasing, as opposed to owner-occupation.

Supply levels of new warehouse space plummeted after the peak years of 2007–2008, reaching levels well below the historical average. Although overall completions are increasing, contrary to the years before the crisis, developers are exercising restraint and mainly developing on a pre-let basis. An estimated 20 percent to 25 percent of new development starts in Europe are speculative, the opposite of 2006–2007, when speculative schemes accounted for more than 80 percent of new developments.

As supply of good-quality facilities is quite tight and vacancy rates are trending down in most markets, tenants from all industries are competing fiercely for good, well-located product. As a result, rental growth is supported by strong fundamentals.

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