Investment Strategies of Overseas Investors Become More Diversified

The biggest issue in the real estate market in Japan is none other than a shortage of goods. With investment-grade properties running short, there are increasingly big changes in the investment strategies of overseas investors. The key to these changes is in three diversifications.

November 06, 2018

Two reasons why overseas investors like the Japanese market

The amount of commercial real estate investment in Japan from January to September 2018 (preliminary estimates) has increased to 3.093 trillion yen—4% higher than it was in the same period in the previous year. The amount for the third quarter was 842 billion yen, which is a 10% increase compared to the year before. This shows that more and more dealings have been carried out since the fourth quarter of 2017. Looking at the percentages for each purchaser attribute, the presence of J-REITs stands out. The percentage of overseas investors also accounts for 18% (the first quarter). For example, the SPC of Korean companies Hanwha Investment & Securities Co., Ltd. and Hana Financial Group acquired the Hitachi Solutions Tower B Building in Shinagawa Seaside in the second quarter of 2018.

There are a wide range of reasons why overseas investors have their eyes set on the Japanese market, but an appealing yield gap and a good environment for financing may be noted as the main reasons. Koji Naito of the JLL Japan Capital Market Department, who researches and analyzes the investment market in a team for buying and selling properties, explains. “We compared yield spreads, which show differences in returns, of A-grade offices and 10-year government bonds. The results were 285 bps in Tokyo and 325 bps in Osaka. Both cities are appealing markets on a worldwide level, which surpass other major markets—for example, New York is 86 bps. In other countries, bank rates are highly volatile, while Japan’s is much more stable. Because of this, we have received many inquiries from overseas investors.” In terms of financing environment, the loan-to-value ratio (LTV) in Japan ranges from 50% to 75%, and money can be borrowed at low interests—less than 1%. Compared to other countries, it’s extremely easy to get financing in this environment. “In Sydney, although the LTV ranges from 40% to 50%, interest is a little less than 4%,” notes Naito. In other major markets such as London, New York, Shanghai, Hong Kong, and Singapore, interest is 2% or more. These two points add to our understanding of reasons why overseas investors turn their eyes to Japan.

Overseas investors open up new acquisition routes

Although the Japanese market seems to be appealing to overseas investors, only one barrier stands in the way of entering the Japanese market—a shortage of goods. Currently, interest is low and financing and refinancing is easy, so there is no reason to rush to sell off your properties. Investors rush to any available outstanding properties that are ripe for investment, and the resulting sudden rise in prices is also a factor in the investment climate becoming limited. Though we are in an environment where investing is easy, there are few properties that we have a chance of acquiring. In this situation, overseas investors are revising their investment strategies and beginning to search for new ways to acquire properties. Naito explains this development. “The key lies in three diversifications. In addition to acquisition targets and investment targets, new forms of investments are opening up, such as searching for partnership as a new investment strategy.”

When it comes to acquisition targets, negotiated transactions and bidding are the norm, but properties that have undergone sale-and-leaseback by general companies and properties released from J-REITs following portfolio replacement are being looked into as new acquisitions. An example of the former is Blackstone’s acquisition of the Amway Japan head office building in Shibuya Ward in December 2017. An example of the latter, that also took place in December 2017, is when GIC Private Limited acquired shares in Shinjuku Maynds Tower, previously owned by Daiwa Office Investment Corporation—at 62.5 billion yen and 3% interest, it makes for a positive example.

“Overseas investors have a strong pioneer spirit when it comes to investing, including buyouts of entire overseas listed REITs that own properties in Japan, although such cases have been decreasing recently,” notes Naito. Until recently, the primary target areas for acquisitions were Tokyo and Osaka, long the center of attention from investors, but now, that attention is shifting away from the two core cities. Nagoya and Fukuoka have been called “gateway cities.” Cities such as Sapporo and Hiroshima are core cities of their respective regions and have good office occupancy rates. Tourist destinations such as Niseko, Hokkaido and Okinawa have become popular due to high demand thanks to foreign tourists. All of these areas are attracting renewed attention, particularly as places to invest in hotels.

Consider investing in alternative assets

As far as investment targets go, the prices of traditional assets such as offices, retail space, residential buildings, logistics facilities, and hotels are increasing, and cap rates are decreasing, which does not provide good investment opportunities. In situations like this, overseas investors are placing their hopes in a new investment sector called ‘alternative assets.’ Some good examples are data centers, self-storage facilities, student accommodations, and similar properties—things that are linked to the Japanese social structure, so demand for them is expected to grow in the future. For example, communication traffic is increasing rapidly thanks to advancements in big data and IoT, so a steady demand can be expected for data centers. Demand for self-storage facilities is high, because living spaces in city centers are small, and people need a place to store their things. Naito expresses his opinion. “It’s not outdoor storage facilities that use big cargo containers, but complexes containing residential spaces, like in the U.S., that are starting to be developed in Japan. These have potential to be appealing investments for overseas investors.” As for student accommodations, it is expected that an increase in international students will make up for declining birth rates. There is growing demand for high-quality student accommodations with café spaces that promote community among the residents, clean dining halls, theater rooms, and similar features. “In terms of profits, higher return can be expected from student accommodations than from general residences,” says Naito.

Searching for a route other than direct investment

As for partnership, overseas investors who want the cooperation of Japanese developers and local authorities in regard to construction or urban development are waiting for investment opportunities. For example, Setia International Japan, a major developer based in Malaysia, signed an agreement with the city of Izumisano in Osaka Prefecture regarding the development of complex facilities including facilities for MICEs in Rinku Park. In addition, it is expected that the issuance of the Integrated Resort (IR) Development Act on July 27, 2018 will boost investment to Japan by overseas investors who have knowledge and experience regarding the development and operation of IRs. As such, we can find overseas investors trying to enter the Japanese market in ways other than direct investment. Not only that, overseas sovereign wealth funds and others are putting money into core funds that invest in real estate in Japan, which indirectly promotes investment to Japan.

Compared to other major markets in the world, the proportion of overseas investors involved in investments in Japan is low, but the situation may change greatly in the near future.