Emerging Trends in Real Estate® Asia Pacific 2023

Although 2022 saw most Asia Pacific (APAC) 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 17th edition of Emerging Trends in Real Estate, a joint undertaking between PwC and the Urban Land Institute (ULI), aims to shed light on real estate investment and development trends, and other issues within APAC.

Key findings

Singapore placed first in this year’s investment prospect and city development prospect rankings
Overseas investment rose by double-digit figures in Singapore, which has received capital that in other years might have been directed to China, Hong Kong, and Japan. Southeast Asian emerging markets such as Indonesia, the Philippines, and Vietnam also migrated upwards, as investors chase high rates of economic growth and emerging consumer classes.
Making Net Zero happen
Achieving net zero carbon emissions has become an essential part of many regional investment strategies. Compliance with international reporting standards, in particular the European Union’s 2021 Sustainable Finance Disclosure Regulation (SFDR), is increasingly important. On a regional basis, real estate carbon efficiency standards remain low, with Australia and Singapore leading the pack by a wide margin.
Asia Real Estate transaction volumes fall with 2022 Q3 falling 38% YOY the lowest third-quarter total in the Asia Pacific for a decade
Both deal count and buyer numbers also fell significantly, and with the value of terminated deals during the quarter totaling almost 20% of completed transactions, the current supply pipeline offers little hope of an early turnaround. Singapore, meanwhile, was the sole major market to buck the downward trend, with investment volumes soaring 47% year-on-year (YOY) to US$9.1 billion.
Inflation increases development risk
In Singapore, an increase in construction costs of “easily 15%” was noted during 2022 by one local developer, mainly attributable to increased material costs. In addition, manpower shortages due to tighter labour laws have resulted in construction delays and increased costs due to higher salaries.

Over the long term, offices will continue to be the go-to asset class, although their appeal has dimmed for the time being as investors come to grips with the dynamics of new-normal demand such as:

How much space is needed
Where should it be located
What types of fitout are required by occupiers in the evolving universe of hybrid workspaces?

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.

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.

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 highly compressed cap rates, a strategy that could backfire if rising interest rates
continue to erode margins.

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.

Stagflationary combination creates an environment for which there is no modern-playbook. 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 APAC 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.

Investors seek defensive havens

Investors have begun re-aligning 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 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 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 re-rated to such an extent that a growing number of investors are looking at prime, well-located retail assets as contrarian plays.