Real estate has been a staple investment class for institutions and individuals alike since the dawn of time. However, it was the innovations within the Islamic finance industry when the wealth generated from the Gulf region was looking to break into the international real estate market that really shaped the industry as we know it today. PHILIP CHURCHILL reviews the Islamic real estate space.
From its tentative beginnings when lawyers and advisors were learning on the job how to structure deals and get the required approvals, the Islamic real estate industry can now rely on a number of fairly standardized legal structures to enable levered investments to be undertaken in a Shariah compliant manner. However, it is the constantly evolving tax and regulatory environment that is now driving innovation.
What investors continue to value is local knowledge and expertise, for the real estate industry remains the archetypal ‘local business’ where significant advantage can be gained and traps avoided through working with local advisors or partners.
Review of 2015
2015 was an extremely positive year for Shariah compliant investors, with appetite growing across almost all sectors and an increasing number of geographies.
Investment into the US continued its strong growth. While sovereign-related investors retained a preference for the gateway cities of New York, San Francisco and Los Angeles, many institutional and private investors saw better value in other cities across the US, with investment decisions based on achieving more attractive returns and the local market dynamics. The competitive US banking system for finance provided attractive levered returns for investors, ahead of where they had been in previous years.
If anything, investment into the UK slowed slightly as yields reached recent lows. Many new investments remained outside of London, across the country, while a number of Islamic investors chose 2015 as the year to realize the gains they had made on their London assets. This was most visible with Malaysian investors, who benefited from the strengthening of the pound sterling against the ringgit, albeit at the expense of making new investments, at least for the time being.
With a reduction in the number of attractive opportunities in the UK, investors increasingly looked at continental Europe to satisfy their investment requirements, with Germany the first port of call for most. While Islamic investors found Germany highly competitive in securing opportunities, competing against both domestic and international monies from around the world, a number of transactions were successfully completed.
Meanwhile, activity also pushed beyond Germany with notable investment activity in France, the Netherlands and Norway. Investors were increasingly flexible in order to achieve the risk-adjusted returns they favored.
Finally, a fully Shariah compliant commercial insurance option was made available to the UK market, completing the jigsaw of elements required to conduct a fully Islamic real estate investment.
Preview of 2016
2016 should start in a similar manner to where 2015 finished, with investors wanting to continue to invest internationally into real estate, many motivated unfortunately by the geopolitical situation in the Middle East.
However, investment decisions will be driven by the wider global economy. Inflation remains low and even in the context of the US and other nations considering an increase in short-term finance costs, the longer term rates against which Islamic investors fix their finance cost remain historically low.
For many investors, the levered returns available from real estate investors will remain highly attractive, particularly where they are secured against long leases and modern properties. They will need to remain open to new locations and sectors to achieve their investment wishes.
Considering development transactions, Islamic investor appetite already exceeds the number of attractive opportunities, with many considering the general stability and growth of the world economy as an opportunity to take on more risk. The unanswered question is whether this will encourage such development equity to look beyond the capital cities.
It will be interesting to see whether the Malaysian ringgit will improve against international currencies or whether everyone gets used to this level being the new norm. The level of demand for real estate assets remains high in Malaysia, with solely domestic investment risks fueling a local asset price bubble.
Speaking to finance banks in various geographies around the world, the one thing that unites them are central banks looking to avoid another finance-fuelled boom market. With their requirements to hold more capital against their real estate finance increasing, we should expect pricing to rise slightly, despite the competition among the banks themselves.
Conclusion
Islamic investors are going into 2016 in an optimistic mood, but very mindful of continuing to make prudent investment decisions. Real estate returns remain attractive to many, underpinned by the ‘bricks and mortar’ nature of such investments.
As central banks seek to dampen the chance of an asset price boom, so Islamic investors remain comforted by the economic optimism that is driving the slow increase in benchmark finance costs.
Philip Churchill is the founder and managing partner of 90 North Real Estate Partners. He can be contacted at [email protected].