Elisabeth Troni, Head of Research EMEA considers the potential effects of the Italian referendum result on commercial real estate.
After a bad year, opinion pollsters can finally celebrate getting one vote right. For months they have been predicting that the ‘No’ campaign would win in Italy’s constitutional referendum, so investors had plenty of time to prepare.
Given the muted initial market reaction, we do not anticipate any major implications for the rest of European Union.
With respect to Italy, financial markets are likely to remain nervous as they believe reform –such as Renzi was proposing – is needed to sort out Italy’s banking system. This could see Italian lenders come under strain and instability spread.
Political instability is likely to be short lived. Mr. Renzi’s decision to step down should spark a short period of uncertainty. The President of the Republic will soon start consultations with the various parties. The process could take a week or two. A new electoral law will be on the agenda, with fresh elections in 2018 or brought forward to Autumn 2017 (not a big difference).
How does the “no” vote change our view on Italian (and European) commercial real estate?
Prime Italian commercial real estate (CRE) is still attractively priced relative to bonds with a 2% yield gap. We expect this spread will continue to attract investors, though downside risks are evident should the Italian risk-free rate move out further. Italian bond yields are currently trading at a relatively high premium to Germany (170 bps), suggesting investors are reasonably cautious. Institutional interest is expected to remain strong for core stabilized assets in the key markets of Milan and Rome. Secondary yields may witness some outward movement, reflecting reduced risk appetite. Uncertainty may attract opportunistic investors to buy on short term weakness if priced appropriately.
Italian bank shares are likely to remain under pressure which is likely to lead to tighter lending conditions. Political uncertainty may disrupt plans to recapitalise Italy’s most troubled Italian banks and could trigger tougher action. Lending to Italian CRE is likely to remain limited for assets with income risk.
Real estate occupier markets may experience some short term leasing hesitancy, particularly in the finance and banking sectors where there is heightened uncertainty. A key risk is that low growth and worries over the banking sector dent business confidence at a time when new supply is being delivered to the market. While the supply picture is currently tight in prime areas, the development pipeline is expected to pick up over the next few years and will remain a dynamic to watch carefully.
The Italian CRE investment market has been one of the most active in Europe during 2016 with no slowdown evident ahead of the referendum vote. With an inevitable period of uncertainty following the vote, delays to transaction timeframes are expected. We expect prime assets will continue to be valued for their defensive properties and pricing should continue to be well supported. Secondary assets are expected to see more pressure.
Overall, we see the referendum vote as a setback to Italy’s reform agenda in the short to medium term, but not something that is likely to be contagious to other markets or that marks a significant change in our Italian, or wider European, real estate outlook.