After months of an intense and unconventional campaign season that has captured worldwide attention, America has finally voted and delivered a shock outcome. Republican nominee Donald Trump has won the presidential election and the Republicans have retained control of the Senate and therefore Congress.
If the EU referendum result was the toss of a coin – in or out – the outcome of the 2016 US election required a fistful of them to land Trump-side up; he had to win in a majority of battleground states, making the forecasting exercise much more complex than the referendum.
The uncertainty surrounding Trump and what he may represent means that risk assets, equities particularly, will take a hit in the short term. We saw this as markets opened yesterday across Asia and Europe. But, as happened after the Brexit vote, we suspect that stock prices will rebound once investors digest the shock outcome and realise the impact of a Trump presidency might be smaller than initially feared. It will certainly only be known over a longer period of time.
But what does the outcome mean for commercial real estate? The commercial real estate market is not the stock market and doesn’t experience wild swings or daily reactions. We need to take a longer view of the potential implications.
Listen to the podcast to hear my thoughts on the implications for European commercial real estate.
What Does the Shock Outcome Mean for European Financial Markets?
Heightened uncertainty and volatility. The shock of a non-consensus event such as this is likely to result in increased volatility in the financial markets in the coming days and weeks. However, as we have learned from other recent shocks, short-term volatility in the financial markets doesn’t necessarily translate into any immediate or meaningful impact on the economy or the property markets.
Parallels will inevitably be drawn to the EU Referendum. Brexit delivered an immediate shock, but since then UK economic data has held up well. UK GDP grew at a 2.0% annual rate in the third quarter and the UK’s equity markets are up by 9% since the EU Referendum vote. The US economy is on a strong footing and we expect it should remain a leading source of global growth. In the third quarter of this year, US real GDP grew by a healthy 2.9% – the strongest growth rate in two years. Consumer and business confidence remain solid, and the labour markets are sturdy, if not robust.
Dollar to weaken. Pound and Euro strengthen – While the dollar normally strengthens in periods of uncertainty, we would now expect the Federal Reserve to take more time to assess its plans to raise interest rates and that this would lead to a slightly weaker dollar. The drop in the dollar could initially provide a welcome backstop to the Pound and the Euro as they will strengthen against the dollar. Ultimately, however, it will be an additional challenge for the Euro area as the Central Bank is running out of tools to support economic recovery and a stronger currency won’t help.
Risk off environment should drive even more capital into European bond markets. A classic investor response during times of uncertainty is to seek safety in bond markets. This should drive bond prices higher/yields lower. Courtesy of ongoing risk aversion and Quantitative Easing the bond market is already a crowded and expensive market – meaning more demand will overflow to other secure income assets – providing further support to European commercial real estate prices which look like a good alternative.
What Does the Outcome Mean for European Occupiers?
Largely business as usual. Unless there is a material deterioration in economic conditions, market conditions across the UK and Europe are unlikely to change. Markets that are currently tight and experiencing upward pressure on rents, such as Barcelona, Dublin and Munich, will continue to do so and soft markets, such as Moscow, Istanbul and Warsaw will remain soft.
Europe is broadly in recovery as labour markets are healing. Rents are rising for prime space in many key cities including Berlin, Milan and Madrid. Occupier demand in EMEA was unaffected by the Brexit vote which was also a shock result.
Demand for commercial space in London has been dented by Brexit and a contraction in business investment, but outside London things are ticking along well. How persistent the weakening in London becomes is largely dependent on Brexit negotiations, but should remain generally unaffected by the US election outcome (assuming global economic growth does not deteriorate significantly).
What Does the Outcome Mean for European Investors?
Lower for even longer to support real estate pricing. Expect an initial risk off environment as volatility drives a flight to safety amongst investors. Core assets/market activity is likely to deepen further, along with limited deal flow for anything that has a fair amount of risk.
With capital preservation at the forefront again, investors will rush money into the European bond markets. The long end of the yield curve is likely to go even lower. This will create downward pressure on government bond yields, which will create new space for yield compression particularly for core assets.
Admittedly some European commercial real estate markets will look fully priced as yields trend even lower, but prices can overshoot for a period. Moreover, prime property has been acting as a bond substitute in recent years. With monetary policy likely to remain excessively lose, we see prime yields going even lower.
The US election result doesn’t change the fundamentals of European commercial property. Apart from short term risk aversion in broader financial markets, real estate fundamentals remain broadly favourable across Europe. We expect investors will maintain efforts to deploy the record setting level of capital that has already been raised and allocated for European commercial real estate. It is tempting to speculate that capital flows may be redirected from the US to Europe, but with upcoming elections in France and Germany it feels premature to speculate as to what the US result means for political risk appetite.