favoured lease horizons vary with the economy

Favoured lease horizons vary with economy

Tuesday, March 24, 2020

Commercial landlords may be looking differently at the mix of lease horizons in their buildings and across their portfolios than they did a few weeks ago. Particularly in booming markets like Toronto and Vancouver, shorter and soon-to-expire leases have claimed favoured status as a route to rent growth. For example, industry insiders participating in a panel discussion at the release of the Canada Property Index 2019 annual results earlier this winter noted that tight industrial vacancy rates are inhibiting some of that ability.

“When you are in a market that is so low (for vacancies), how are you capturing those rents that are double-digit? Being able to produce that into an income return takes some time,” reflected Christina Iacoucci, managing director with BentallGreenOak.

Now, big data underpins analysis from MSCI demonstrating that a higher weighting of long leases delivers better results in the face of a downturn. Niel Harmse, MSCI’s senior associate, global real estate research, recently summarized the findings, drawn from the United Kingdom Property Index and tracking periods following the 2008 financial crisis and the 2016 Brexit referendum.

“Looking back to 2008, longer-lease real estate assets provided a performance boost during declining market periods, since properties with a longer weighted-average lease expiry (WALE) were likely to be more insulated from negative reversionary potential,” he notes. “In the five-year period after the global financial crisis, long-lease properties in the UK delivered an annualized total return of 9.6 per cent, compared to the 5.2 per cent of shorter-lease properties.”

That scenario switched with  a resurgent UK economy. “From the first quarter of 2014 to the second quarter of 2016, shorter-lease assets stole the limelight,” Harmse observes.

Accordingly, he advises investors to consider a broader range of fundamentals —beyond asset type and market location — that data analytics now serves up for consideration.

“Fast-improving technology and the evolution of big data have meant that a higher volume of information can be processed more efficiently in helping investors understand risk and return drivers, and aid portfolio construction,” Harmse says. “Lease structures and the quality of tenants have often been among the key drivers of growth and resilience of cash flows. The ongoing global spread and negative impact of the novel coronavirus may be an example of a scenario where the significance of lease lengths could come to the fore.”

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