TRENDS FOR 2022 REAL ESTATE TRENDS SET TO SHAPE THE NEXT 12 MONTHS
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INVESTMENT RESEARCH TRENDS FOR 2022 REAL ESTATE TRENDS SET TO SHAPE THE NEXT 12 MONTHS DECEMBER 2021 For Professional Investors only. All investments involve risk, including the possible loss of capital.
CONTENTS
As worrying new COVID-19 variants emerge, the pandemic is still far from over, while concerns about higher
inflation and rising market interest rates persist. Nevertheless, the backdrop for real estate markets in 2022 is
one of transition to a new phase of recovery and expansion. Leading indicators are pointing upward, and even
though the gap between the best- and worst-performing parts of the market remains wide, most sectors and
regions are set for sustained or improved investment performance in the year ahead. But that renewed optimism
raises a new challenge for investors: deploying capital that has been raised. City office, apartment and retail
markets that suffered during the pandemic are starting to come back into favor, and capital is increasingly
finding its way into higher-returning operational assets, wherein returns are linked to long-term trends such as
digital transformation, aging populations and environmental sustainability.
The following report sets out nine trends that are expected to be among the most important in shaping the
investment outlook in 2022 and beyond.
1 Recovery Turns to Expansion
The recovery that has taken hold in the second half
of 2021 is set to turn into a full-blown expansion
phase, characterized by above-average demand and
6 Debt Supply is Shifting Toward a Greater
Provision of Nonbank Capital
Stricter bank regulation has led to an ongoing structural
shift in the commercial real estate lending market, with
more-widespread rental growth. a surge in private debt provision underpinned by strong
capital raising for debt strategies.
2 Cities Make a Comeback
Cities are seeing signs of improved rental growth,
with central business district offices and centrally
located apartment markets benefiting from a 7 Operational Deals Gain Further Popularity
Investors are increasingly looking to deploy capital
in operationally driven real estate assets. Aging
sharp increase in hiring intentions that are driving demographics are motivating capital flows beyond
employment and space requirements. senior living, toward medical offices and life sciences
real estate, for which space requirements are set to
3
rise significantly.
Retail Is Back on the Agenda
A recovery in store-based spending growth is positive
8 Focus on Green Investments Intensifies
for the retail net operating income outlook, and
signs of capital value growth are showing up in Investor focus on investments that are compliant
more markets and segments, meaning that retail with environmental, social and governance (ESG)
investment activity is set to increase. is intensifying as market participants strive to reach
net zero carbon goals, and evidence is emerging that
4
ESG-certified assets are achieving lower yields and
Supply Outlook Remains Subdued higher rents.
Supply growth is set to pick up in the next couple
of years, although it remains somewhat contained
9 Performance Gap Stays Wide
compared with history. Improvement in real rent
growth may lead to forecasts being revised up, but The significant gap between the best- and worst-
rising construction costs are dampening starts and, performing parts of the market is set to persist, but
therefore, future completions. sector differences are starting to narrow and location
is once again set to play a greater role in driving
5
relative performance.
Push for Larger Deals Emerges as
Investment Volume Grows
Pandemic-related restrictions continue to ease, thereby
letting deal volume normalize, and the outlook is for
a strong year of investment activity, with upside risks
from $300 billion of lost deals in 2020.TREND 1
RECOVERY The recovery that has taken hold in the second half
TURNS TO
of 2021 is set to turn into a full-blown expansion
phase, characterized by above-average demand
and more-widespread rental growth.
EXPANSION Everything points toward 2022 as a strong year for real estate
performance. Prospects for household spending are being
buoyed by a rebound in employment, faster wage growth and
accumulated savings. Key occupiers go into 2022 in good
financial shape and are once again looking at expansion plans so
as to capitalize on the fast pace of growth being recorded as the
global economic recovery continues.
Through the course of 2021, leading indicators picked up
dramatically once successful vaccine rollouts paved the way for
widespread reopenings of services, thereby boosting sentiment
significantly (Exhibit 1a). Despite a recent wobble in sentiment —
linked to such factors as supply chain issues, rising costs, inflation
pressures, a pickup in COVID cases and the emergence of new
variants of concern — real estate demand is now rising sharply.
Aggregate space demand is expected to recover further and remain
above trend through 2022 as occupier markets make up ground
lost during the pandemic when major tenant groups delayed
location decisions, and COVID restrictions held back activity.
Exhibit 1a: Leading Indicator Points to Improving Occupier Demand
Global Real Estate Absorption and Leading Indicator (normalized)
3 Despite a recent wobble in sentiment, the
Projection
steep increase in the leading indicator through
2 much of 2021 means real estate demand is set
to climb further going into 2022
1
0
-1 A projection of the
leading indicator
-2 suggests demand will
stay above average
-3 during the next couple
of years as occupier
-4
04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22 23 markets make up
lost ground
Global Commercial Real Estate Absorption (4Q Rolling) Leading Indicator (+2Q)
Sources: CoStar, Cushman & Wakefield, JLL, PMA, Eurostat, Manpower, Oxford Economics, PGIM Real Estate. As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 3TREND 1 | RECOVERY TURNS TO EXPANSION
While improvements in space absorption are being recorded Exhibit 1c: More Markets Now Reporting
across the board, the familiar sector differences are persisting
(Exhibit 1b). Demand for logistics and apartments remains well Rental Growth
above historical averages, and in the office and retail sectors, the
pickup in absorption is springing from a low base.
Share of Markets Reporting Rising, Stable and Falling Rents
Compared With Six Months Ago (%)
The prospect of a continuation of increased demand suggest 100%
that more and more markets will record rental growth as 2022
90%
goes on. Vacancy rates are starting to fall again, and 43% of
80%
major global real estate markets reported positive rental growth
during the third quarter of 2021 — up from just 23% at the 70%
end of 2020 — whereas fewer markets are seeing rents fall 60%
(Exhibit 1c). 50%
40%
The number of
30%
markets reporting
20%
Exhibit 1b: Differences Persist Across Sectors rental growth has
10% picked up again
Global Real Estate Absorption by Sector (normalized) 0%
00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21
Absorption is improving across all sectors, Rising Stable Falling
although familiar sector stories persist
1.5 Sources: CoStar, Cushman & Wakefield, JLL, PMA, PGIM Real Estate.
1.0 As of December 2021.
“
0.5
0.0
-0.5
-1.0
-1.5
-2.0 Demand is improving but
-2.5 still subdued in office and
-3.0 retail markets Demand for logistics and apartments
-3.5
remains well above historical averages, and
03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 in the office and retail sectors, the pickup in
Office Retail Logistics Apartment
absorption is springing from a low base.
Sources: CoStar, Cushman & Wakefield, JLL, PMA, PGIM Real Estate.
As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 4TREND 2
CITIES MAKE Cities are seeing signs of improved rental growth,
A COMEBACK
with central business district (CBD) offices and
centrally located apartment markets benefiting
from a sharp increase in hiring intentions that are
driving employment and space requirements.
Despite initial concerns about major cities’ resilience to the
pandemic — that envisioned various temporary upheavals,
including a switch to remote working as workplaces closed and
an associated shift in preferences toward suburban living that
offered more space and more amenities — mainstream property
types in city center areas are now reporting rising demand and are
seeing signs of improved rental growth.
It is still early days with regard to an office recovery story.
Demand is still subdued on an absolute basis but appears
to have turned a corner linked to workplace reopenings and
corporate tenants starting to make previously delayed long-term
location decisions. Rental growth has now turned positive in
aggregate across global gateway markets (Exhibit 2a), with rising
competition for a small pool of available modern grade A space
driving rents higher in such markets as Munich, London, Paris
and Singapore.
Exhibit 2a: CBDs Starting to Outperform as Hiring Intentions Improve
Annual Office Rental Growth: Gateway Markets (%) Rents in CBDs Relative to Suburban Areas (%)
After a dip in 2020, office rents 1.20 2.5
Rent ratio is rising when CBD rents are
4% are now growing again, with 1.18 2.0
growing at a faster pace than suburban rents
3% CBDs starting to outperform 1.16 1.5
suburban markets
2% 2.7% 1.14 1.0
2.4%
0.5
1% 1.5% 1.12
0.0
0%
0.6% 1.10
-0.5
1.08
-1% -1.0
Periods of improving hiring
1.06
-2% -2.4% intentions tend to indicate a -1.5
1.04 shift toward CBD areas -2.0
-3%
-3.9% 1.02 doing relatively well -2.5
-4%
1.00 -3.0
-5% 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22
2019 2020 2021
CBD-to-Suburban Rent Ratio
CBD Suburban Normalized Global Hiring Intentions (+2Q, RHS)
Sources: CoStar, Cushman & Wakefield, JLL, PMA, Eurostat, Manpower, PGIM Real Estate. As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 5TREND 2 | CITIES MAKE A COMEBACK
Unlike during 2020, when suburban markets held up better, A similar pattern is playing out in major apartment markets, where
CBD areas are now outperforming. And even though that is a household-location decisions are linked to employment prospects
nascent signal that emerged only in the third quarter of 2021, as well as such factors as amenities and accessibility — and, of
there are several reasons to expect the pattern to continue into course, whether workplaces are open or not. After a struggle in
2022. One reason is that CBD rents tend to rise more quickly 2020, as workplaces have reopened and firms have started hiring
than in suburban areas when hiring intentions are elevated — as again, apartment demand has rebounded sharply in major cities,
they are in today’s market — because businesses are compelled and rents are rising at a rapid pace (Exhibit 2c). While rental
to use location as a way of helping attract talent in a competitive growth remains weak in Tokyo, where vacancy rates in central areas
labor market. remain above prepandemic norms, London and U.S. cities such as
Boston and Washington, D.C., are recording steep rent increases,
A second reason is simply that CBD markets tend to regaining lost ground after a sharp correction in 2020.
outperform in a recovery, linked to the agglomeration benefits
of central locations. During the past two recoveries, CBD rents
grew at double the pace of suburban markets in the four years
after reaching a trough (Exhibit 2b). A drop in rents in the past Exhibit 2c: City Apartment Markets Are Recording
couple of years has boosted affordability in previously expensive Rental Growth Again
CBD locations, and slightly higher vacancy compared with
prepandemic levels means improved choice, thereby paving the Major City Apartment Rental Growth (% p.a.)
way for rental growth during the expected demand upswing.
10% Apartment rental growth
8% rebounded strongly in 2021 in
Europe and the United States
Exhibit 2b: Past Cycles Point to a Good Run 6%
4%
Ahead for CBDs 2%
0%
Office Rents During Cyclical Recovery Periods Since 2000
-2%
(average past cycles)
-4%
Index: Trough = 100 -6%
150
-8%
Strong relative CBD performance 2019 2020 2021
140 is typical in most recovery and
early-expansion phases United States Europe Asia Pacific Global
130
Note: Asia Pacific data are for Tokyo in Japan, which is the region’s largest
120 institutional residential investment market.
Sources: CoStar, PMA, Savills, Kantei, ARES, PGIM Real Estate.
110
As of December 2021.
100
90
0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16
Quarters from Trough
CBD Suburban
Sources: CoStar, Cushman & Wakefield, JLL, PGIM Real Estate.
As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 6TREND 3
RETAIL IS BACK A recovery in store-based spending growth is
ON THE AGENDA
positive for the retail net operating income (NOI)
outlook, and signs of capital value growth are
showing up in more markets and segments, meaning
that retail investment activity is set to increase.
When thinking about the outlook for retail markets, which still
represent a significant part of the investment landscape, it is
important to look beyond traditional measures of retail activity.
For example, headline retail sales figures are only part of the story
because they are limited to a narrow coverage of spending on
physical goods. To get a true measure of store-based spending,
the online component has to be subtracted; and other personal
services such as those offered by restaurants, hair salons and
gyms, which typically occupy retail units, have to be accounted
for. Similarly, rent received can either be fixed or be based on a
more-flexible arrangement, such as turnover based, meaning an
assessment of NOI is important alongside headline rents.
As services have reopened through 2021 and as some of the
huge jump in online spending has reverted back to physical
shops, there are signs that the associated rebound in store-based
spending is boosting retail investment performance. After several
years of decline, NOI growth has turned positive, and based on a
simple relationship with forecasts for store-based spending, it will
stay positive in the coming years (Exhibit 3a).
Exhibit 3a: Store-Based Spending Growth Driving a Retail Net Operating Income (NOI) Recovery
MSCI Global Retail NOI Growth and Global Store-Based Spending Growth (% p.a.)
A recovery in store-based spending
20% growth should help NOI growth 10%
15% recover further in the next few years 8%
10%
6%
5%
0% 4%
-5% 2%
-10% 0%
-15%
Global store-based spending adjusts headline consumer spending -2%
-20% for online activity (–) and services spending that typically takes
-25% place in retail units (+) such as at restaurants, hair salons and gyms. -4%
-30% -6%
07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
NOI Growth Store-Based Spending Growth (RHS) Forecast
Sources: MSCI, Oxford Economics, Economist Intelligence Unit, PGIM Real Estate. As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 7TREND 3 | RETAIL IS BACK ON THE AGENDA
Of course, questions remain about whether this improvement Parts of the market that are reporting positive capital growth,
is enough to tip the risk–return trade-off in favor of higher along with still-elevated yields, are likely to attract further
retail allocations. The returns outlook is fairly modest based investor attention in 2022. The theme for the better-performing
on a sluggish, rather than a strong, recovery that is more about segments is clear, comprising mainly local, accessible, amenity-
recovering lost ground than it is about expansion; and the sector based and low-cost shopping options like neighborhood
still faces lots of challenges. Ongoing digital transformation, centers in the United States, retail warehouses in Europe and
uncertainty about the future pace of transition to online Australia, and smaller suburban malls in Asia Pacific. Assets in
spending and a shift toward turnover-based rents all mean a those groups are able to compete with online channels through
significant risk premium is required. value and convenience, and they can offer access to physical
services such as gyms, restaurants and hair salons. In some
After a sustained period of value correction, investors are markets, notably in the United States, these sites can offer
starting to consider retail again. Since 2019, almost all major complementary services that link to online services, such as
retail segments have recorded declines of 10% to 30% in collection points and store return services.
headline values (Exhibit 3b). Some of the retail correction came
in absolute terms when headline rents, NOI and capital values In contrast, the correction experienced by malls and many
fell, often sharply, in the face of challenging trading conditions. prime shopping streets — already deeper than for neighborhood
The correction has also played out in relative terms in that a centers and retail warehouse formats — is still ongoing as
period of stable to gently rising yields in recent years has seen a retailers reevaluate how such locations fit into the store portfolio
large spread open up relative to other real estate sectors that have of the future. Although values look set to bottom out soon,
recorded significant yield compression. rents may still come under further pressure; and making the
returns stack up against the elevated risks remains a challenge.
Meanwhile, there are clear signs that momentum is now
turning. In all of the major retail segments across the three
major worldwide regions, capital value growth in the third
quarter of 2021 was either positive or, at least, falling at a slower
rate than it was in 2020.
Exhibit 3b: Values Growing Again in Parts of the Retail Market
Retail Capital Value Movements Since 2019 by Region Quarterly Capital Growth: 3Q21 Versus 2020 Average (%)
and Format (%)
Capital value growth 3Q21 Capital Value Growth
now positive after being 4%
U.S. Neighborhood Centers Signs of recovery negative in 2020
Asia Pacific Other Malls are now emerging
U.S. Neighborhood APAC Other Malls
in least-affected
Asia Pacific Prime Malls Centers 2%
retail formats Europe Retail Warehouse
Europe Retail Warehouse U.S. Power Centers
APAC Prime Malls
U.S. Power Centers
-6% -4% -2% 0% 2% 4%
Europe High Street U.S. Malls 2020 Capital Value Growth
Europe High Street Europe Malls
(per quarter)
Europe Malls -2%
APAC Prime All segments
Asia Pacific Prime are seeing either
Capital value growth
U.S. Malls still negative but
positive value
-4%
less so than last year growth or at least
-35% -30% -25% -20% -15% -10% -5% 0% 5% 10%
a slower pace of
decline than they
Trough-to-Now Peak-to-Trough -6% did last year
Sources: CoStar, Cushman & Wakefield, JLL, MSCI, PMA, PGIM Real Estate. As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 8TREND 4
SUPPLY OUTLOOK Supply growth is set to pick up in the next couple
REMAINS
of years, although it remains somewhat contained
compared with history. Improvement in real rent
growth may lead to forecasts being revised up, but
SUBDUED
rising construction costs are dampening starts
and, therefore, future completions.
A combination of completions of projects that got under way
before the outbreak of the pandemic and the delivery of space
that was originally scheduled for 2020 means that supply growth
across all major property types is expected to be equivalent
to about 2% of existing stock per year across 2022 and 2023
(Exhibit 4a). And although that rate of completions may be
considered relatively low compared with history, it is above the
average recorded in recent years and through the most recent
cycle. A sluggish recovery in supply growth after the global
financial crisis has some similarities to the situation today,
because project starts were held back by the restricted availability
of debt finance and shortages of construction workers.
Echoing wider occupier market trends, the story differs across
sectors. Relative to the past cycle, supply growth is elevated in
most global logistics markets as space gets added to cater to
growing supply chain requirements. In Europe and the United
States, office supply growth is high relative to a subdued period
Exhibit 4a: Near-Term Supply Pickup Not Set to Persist
Estimated Global All Property Supply Growth (% existing stock) Supply Forecasts by Sector and Region
(normalized versus last-cycle average)
Supply is set to edge higher in the
3.5% next couple of years but then to fall U.S. Logistics
back as the impact of the pandemic on Asia Pacific Retail
3.0% construction starts weighs on deliveries Asia Pacific Logistics There will be pockets
Europe Office of faster supply
2.5%
Post-GFC, early Europe Logistics growth in the next
2.0% cycle average U.S. Office couple of years —
U.S. Apartment
notably in logistics
1.5% markets — but
Europe Apartment
completions are
Asia Pacific Office set to ease back
1.0%
U.S. Retail in most markets
0.5% Asia Pacific Apartment
Europe Retail
0.0% -4 -3 -2 -1 0 1 2 3
83 85 87 89 91 93 95 97 99 01 03 05 07 09 11 13 15 17 19 21 23 25
Note: Supply growth is weighted by sector and region investment market size. 2022–23 2024–26
Sources: CoStar, JLL, PMA, PGIM Real Estate. As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 9TREND 4 | SUPPLY OUTLOOK REMAINS SUBDUED
through much of the last cycle, whereas in Asia Pacific, retail On the upside, if real rental growth picks up, it would likely
space is still being added in China and other emerging markets, stimulate an increase in the rate of supply growth. Typically, real
linked to structural growth in consumer spending. Apartment rental growth stays negative for several years before recovering
markets in the United States feature pockets of high supply as occupier demand improves. If real rents follow a pattern
where demand is rebounding swiftly. similar to past cycles, there will be upward pressure on current
supply forecasts from 2023 onward (Exhibit 4b) — essentially,
Looking ahead, supply growth is forecast to fall back toward as higher projected values for completed space tip more projects
sluggish, post-global-financial-crisis recovery levels in most sectors into viability.
and regions, although there are risks on both sides of that outlook.
Exhibit 4b: Supply Outlook Influenced by Rents
Change in Supply Growth (%) Versus Real Rental Growth (% p.a.)
0.4% Real rents rising, supply
8%
growth accelerating Simple projection
0.3% 6%
based on past
0.2% recoveries 4%
0.1% 2%
0.0% 0%
-0.1% -2%
-0.2% -4%
Supply growth set to decelerate after
-0.3% -6%
Real rents falling, supply 2022 but may move higher if real
-0.4% growth decelerating rental growth picks up -8%
-0.5% -10%
90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26
Change in Supply Growth (moving average) Global Prime Real Rental Growth (RHS)
Sources: CoStar, Cushman & Wakefield, JLL, PMA, PGIM Real Estate. As of December 2021.
Exhibit 4c: Sharp Rise in Construction Costs At the same time, construction costs have jumped, working in
a direction opposite to rents. Labor costs are rising as falling
Index of Key Construction Input Material Prices unemployment is making filling vacancies harder, which is
putting upward pressure on wages, notably in the United States,
Index: 2005 = 100 where the shortage of workers is being exacerbated by a low
250 The prices of key materials labor force participation rate. In addition, prices of key raw
used in construction rose by materials used in construction, such as steel, copper and timber,
200
77% in 2021, dampening have risen sharply (Exhibit 4c).
potential supply growth
Forecasts are for raw material input prices to ease back once
150 global supply pressures subside, but clearly elevated costs
will have an effect at the margin, weighing on construction
starts now — and, therefore, limiting potential future supply
100
growth — even if occupier demand and rents start to grow
more rapidly.
50
0
05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21
Note: Index comprises headline prices for steel, copper and timber.
Sources: Oxford Economics, World Bank, PGIM Real Estate. As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 10TREND 5
PUSH FOR Pandemic-related restrictions continue to ease,
LARGER DEALS
thereby letting deal volume normalize, and the
outlook is for a strong year of investment activity,
with upside risks from $300 billion of lost deals
EMERGES AS
in 2020.
The global economy and financial markets are already looking
INVESTMENT
beyond the pandemic, but day-to-day restrictions persist in
some places, and voluntary behaviors such as working at home
and avoiding unnecessary travel are still common. In real estate
markets, physical presence for surveying or inspecting assets is
VOLUME GROWS important for investors and lenders, and such measures raise a
physical barrier to transactions.
Since early 2020, deal volume relative to prepandemic norms
has been tracking measures of stringency, typically with a lag
of several months for easing or tightening to take full effect
(Exhibit 5a).
As new variants emerge, the Northern Hemisphere’s winter
is likely to see some reimposing of restrictions — notably in
parts of Europe — but the broader trajectory is that the global
stringency index has been easing over time and is at levels
consistent with transaction market activity normalizing.
Exhibit 5a: Transaction Volume Recovery Continues as Restrictions Ease
Global Transaction Relative to Prepandemic Baseline ($ billion) Global Transaction Volume ($ billion)
30 -30 1,400 After a dip in 2020, deal
volume now looks to be
1,300 back on its prepandemic
15 -10
growth path
1,200
0
10
1,100
-15
PROJECTION
30 1,000
Restrictions have typically been
ESTIMATE
-30 easing in recent months, thereby
aiding a return to above-average 50 900
-45
transaction volume
800
70
-60 700
Jan-20 Apr-20 Jul-20 Oct-20 Jan-21 Apr-21 Jul-21 Oct-21 Jan-22 Apr-22 Jul-22 Oct-22
Deal Volume Relative to 2017–19 Baseline 600
2018 2019 2020 2021 2022
6-Month Change in Stringency Index (RHS, +1 Month)
Sources: Real Capital Analytics, Blavatnik School of Government/University of Oxford, PGIM Real Estate. As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 11TREND 5 | PUSH FOR LARGER DEALS EMERGES AS INVESTMENT VOLUME GROWS
Boosted by a strong second half of the year, estimates for 2021 A closer look shows that it is also notable that typical new fund
put overall global deal volume at about $1.23 trillion — up sizes have grown, rising by 28% to an average of $542 million
43% from the depressed, 2020 level — and volume is set to in 2021, which is significant because fund managers want to
increase further. A simple projection for 2022, based on a optimize the benefits of having diversified portfolios while
further easing of restrictions and a reversion to prepandemic recognizing that doing too many deals can become costly and
norms, would take investment volume to $1.30 trillion. time-consuming and bring little incremental performance benefit.
Transaction volume may have normalized, but since 2016 there As such, deals are set to get bigger. At current average deal sizes,
has been a significant gap between levels of capital raising and a typical fund would have to do 29 transactions to fully deploy
deal activity, along with an estimated $300 billion of deals that its capital — up from 23 in 2019. Assuming that that measure
was simply lost in 2020 because of restrictions. As a result, the reverts to its prepandemic level, average deal sizes would have
volume of so-called dry powder — capital that fund managers to rise 27% to $24 million. In addition to implying scope for
have raised but not yet deployed — has climbed significantly in more portfolio deals, developments and platform transactions
recent years and remained elevated in 2021 even as transaction as ways of deploying capital more rapidly, mainstream sectors
volume recovered (Exhibit 5b). such as retail and office stand to benefit from the larger lot sizes
they offer.
Clearly, a combination of substantial fundraising in 2021 and
significant dry powder support the thesis that transaction volume
will increase further in 2022 and point toward significant upside
risks to the level of activity over the next few years.
Exhibit 5b: Pressure on Deal Sizes to Grow
Index of Global Transaction Volume and Capital Raising Average Global Deal Size and New Fund Size ($ billion)
Activity (2012 = 100) 24 Typical deal sizes have been stable, 550
Index: 2012 = 100 22 whereas funds are getting bigger . . .
20 450
240 450
In the past few years, capital raising 18 350
220 has grown more quickly than deal 400 16 250
volume has, and investors have 350 14 Projection that assumes number of
200
a lot of dry powder 12 deals per fund reverts to 2019 levels 150
300
180 10 50
250 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22
160
200 Average Deal Size Average New Fund Size (RHS)
140
150
120 100 Implied Number of Deals per New Fund
100 50 30 . . . meaning that funds
80 0 25 are doing more deals
12 13 14 15 16 17 18 19 20 21 20
PROJECTION
15
Dry Powder ($ Billion, RHS) Transaction Volume
10
Capital Raising
5
0
07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22
Sources: Preqin, Real Capital Analytics, PGIM Real Estate. As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 12TREND 6
DEBT SUPPLY Stricter bank regulation has led to an ongoing
IS SHIFTING
structural shift in the commercial real estate
lending market, with a surge in private debt
provision underpinned by strong capital raising for
TOWARD A
debt strategies.
Part of the reason that transaction volume hasn’t kept pace with
GREATER
fundraising in recent years has to do with a tighter regulatory
environment for bank lenders — certainly when compared
with past cycles. This has become more apparent in Australia
and Europe, where bank lenders traditionally dominated, but it
PROVISION OF nevertheless also affects liquidity in the United States, where the
lending market is already more diversified.
NONBANK
The supply of debt to global commercial real estate markets is
shifting, however. Banks are reducing their balance sheets in
response to tough regulatory frameworks that limit the scope for
riskier lending — for example, lending on assets with vacancy,
CAPITAL
assets with development risk and assets that are at higher loan to
value ratios (Exhibit 6a).
Exhibit 6a: Regulatory Drivers Behind the Structural Shift in Debt Supply
Illustration of Bank Regulatory Capital Requirements
3
3
Stricter banking regulation has led to increased bank
High
regulatory capital requirements, which vary based on Basel II:
credit risk exposure and impact on risk weights Internal
2
Models
Basel II: Slotting
Risk Weight
2
Basel III:
1
Revised Standardized
Approach
Basel III Finalization:
1
Low
Minimum Output Floors
0
Low Risk Weight High
Note: This diagram is for illustrative purposes only. It is intended to be a simplified expression of the risk weights for income-producing real estate exposures
(non-recourse secured CRE lending) rather than a precise representation.
Sources: CREFC Europe, PGIM Real Estate. As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 13TREND 6 | DEBT SUPPLY IS SHIFTING TOWARD A GREATER PROVISION OF NONBANK CAPITAL
At the same time, there has been a surge in private debt Almost all debt investors plan to either maintain or increase
provided by nonbank lenders such as insurance companies, their allocations to real estate, thereby keeping liquidity elevated
pension funds and debt funds that has been underpinned by through 2022 despite pressures on bank lenders.
strong capital raising for private debt strategies (Exhibit 6b).
As a spike in global inflation pushes some central banks to
consider tightening interest rates earlier than planned, market
interest rates edged upward during the second half of 2021. And
Exhibit 6b: Capital Flowing to Private Debt although rising rates are attractive for new lenders, they pose a
threat to existing loans — especially if the rates rise far enough
Three-Year-Average Fundraising for Private Debt to make refinancing difficult.
Strategies ($ billion)
Unlike in past cycles — notably, before the global financial
100 Projection
crisis — all-in borrowing rates are now well below typical in-
Private debt capital raising
80 place yields (Exhibit 6c). That means borrowers typically have
has been strong in recent years
60 significant surplus cash flows and will be in good positions
to absorb any interest rate increases that occur. In addition,
40
margins are wider than in the past and have the scope to
20 narrow further if interest rates rise.
0
07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25
Real Estate Debt Infrastructure Debt Direct Lending Exhibit 6c: Debt Strategies Are Cushioned Against
the Prospect of Higher Interest Rates
Expected Changes to Investor Allocations to Real Estate
Global Office Yield Versus All-in Borrowing Rate
Debt (% respondents)
8% Consistent gap between
100%
7%
property yields and
80% borrowing rates provides
6%
60% a cushion for rising rates
5%
40% 4%
20% 3%
0% 2%
2013 2014 2015 2016 2017 2018 2019 2020 2021 1%
0%
Increase No Change Decrease
-1%
“
Sources: Preqin, ANREV, INREV, PREA, PGIM Real Estate. As of December 2021. -2%
00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21
Gap Between Property Yield and All-in Borrowing Rate
All-in Borrowing Rate
Global Developed Markets Prime CBD Office Yield
Sources: Bloomberg, Bayes Business School, CBRE, PMA, ACLI, Real Capital
Analytics, PGIM Real Estate. As of December 2021.
Borrowers typically have significant surplus
cash flows and will be in good positions to
absorb any interest rate increases that occur.
PGIM Real Estate | December 2021 | REF: 002519 14TREND 7
OPERATIONAL Investors are increasingly looking to deploy
DEALS GAIN
capital in operationally driven real estate assets.
Aging demographics are motivating capital flows
beyond senior living toward medical offices and life
FURTHER
sciences real estate, for which space requirements
are set to rise significantly.
POPULARITY
Investors have lots of capital to deploy, but even though the
outlook for occupier markets is improving, low yields and stiff
competition for available stock mean that equity and debt
investors are increasingly looking beyond traditional, commercial,
leased real estate.
Operational assets expand the investment opportunity set,
which introduces a wider range of options for investors to
generate returns by investing in operating platforms and
profitable enterprises as well as real estate — albeit with higher
risk involved. At the same time, looking beyond the established
hospitality sector, many niche operationally intensive sectors
such as senior living, cold storage and data centers tap into
favorable macrotrends linked to aging populations, online
spending and digital infrastructure.
The share of operational real estate in global transaction volume
is small — at an estimated 12.3% — but that proportion more
than doubled during the past cycle (Exhibit 7a).
Exhibit 7a: Share of Operational Sectors Is Rising Quickly
Annual Global Investment Volume ($ billion) Share of Global Non-Hospitality Operational
Real Estate Volume (2019–21, %)
180 14%
The share of operational real estate in total
160 volume has increased significantly, accelerating 12% 9%
140 dramatically in 2021 5%
10% 29%
120
100 8%
23%
80 6%
60
4% 18%
40 16%
2%
20
0 0%
06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 Office (Medical/R&D) Senior Living
Non-Hospitality Operational Real Estate Sectors Industrial (Cold Storage, Manufactured
Share of Total (RHS) Data Centers) Housing
Student Living Self-Storage
Sources: Real Capital Analytics, PGIM Real Estate. As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 15TREND 7 | OPERATIONAL DEALS GAIN FURTHER POPULARITY
One of the significant trends that are driving investment into a Senior housing investment is well established, but aging
variety of operational sectors is the aging population. In the next populations also have implications for real estate that go beyond
decade, the over-75 population across Asia Pacific, Europe and the living sector.
the United States is set to rise by 100 million, which is the same
increase as was recorded during the past two decades and which Against the backdrop of a pandemic with public health in the
implies a rapid acceleration (Exhibit 7b). spotlight, real estate related to healthcare such as medical offices
and life sciences is gaining further attention. And though both
of those examples can be considered specialized uses of office
space, medical offices provide outpatient medical services,
Exhibit 7b: Global Population Aging Rapidly and life sciences real estate provides space for research and
development in such fields as pharmacology and biotechnology.
Over-75 Population by Major Region (millions)
In those segments, demand for space is linked to healthcare
300 industry employment, which is set to increase in order to
Significant increases in serve aging societies. An analysis of projected global healthcare
older populations in major employment and space required per medical employee suggests
250
regions are on the way that 17% of additional office space will become needed during
200 the next decade (Exhibit 7c). And it will require substantial
investment capital to provide medical offices at a faster pace than
150 in the past.
100
Exhibit 7c: Healthcare Space Requirements
50
Set to Rise
0
00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 Estimated Additional Medical Office Space Required Globally
(%, relative to 2021)
United States Europe Asia Pacific
20%
18%
“
Sources: Oxford Economics, PGIM Real Estate. As of December 2021. Employment-based projection suggests
16% more medical offices are needed
14%
12%
10%
8%
6%
Against the backdrop of a pandemic with 4%
public health in the spotlight, real estate 2%
related to healthcare such as medical offices 0%
and life sciences is gaining further attention. 22 23 24 25 26 27 28 29 30 31
Sources: Oxford Economics, PGIM Real Estate. As of December 2021.
The aforementioned trends are set to persist, but investors’
need to source assets that offer income streams; higher returns,
including from the development of new facilities; and potential
scale is behind the acceleration in interest in operational deals
that is set to persist into 2022.
PGIM Real Estate | December 2021 | REF: 002519 16TREND 8
FOCUS ON GREEN Focus on investments that are environmental,
INVESTMENTS
social and governance (ESG) compliant is
intensifying as market participants strive to reach
net zero carbon goals, and evidence is emerging
INTENSIFIES
that ESG-certified assets are achieving lower
yields and higher rents.
Based on survey evidence, an estimated two thirds of real estate
investors and fund managers have already formally adopted ESG
criteria into their investment processes, and that figure will rise
further in the coming years (Exhibit 8a).
The widespread focus on ESG — and on environmental factors
in particular — is relatively new, but it is already showing up in
pricing. A look at global office transactions shows that yields on
highly rated green buildings have compressed more quickly than
the wider market in recent years. However, a regional aspect is
at play too, yielding an effect that is more noticeable in Europe,
where the trend toward ESG-based investing started before the
pandemic, driven by increased regulation. In contrast, in Asia
Pacific and the United States, the big shift has happened more
recently — and accelerated significantly in 2021.
Exhibit 8a: Investors Are Focusing on ESG
Estimated Share of Global Real Estate Investors Adopting Global Prime Office Yields (%)
ESG Criteria Over Time Green offices are recording
4.6%
80% More investors now 4.4% more yield compression
4.2%
60% adopting ESG criteria 4.0%
40% 3.8%
20% 3.6%
3.4%
0% 3.2%
2018 2019 2020 2021 2022–23 Proj. 18 19 20 21
Green Offices All Offices
Estimated Share of Investors Adopting ESG Criteria (2021)
High rates of adoption in Europe are caused by Yield Shift Through the Past Cycle (basis points)
increased regulation, but other regions are catching up 0
-20
80%
-40
60% 79% -60
40%
64% 58% -80
20% -100
0% -120
North America Europe Asia Pacific Global United States Europe Asia Pacific
Note: Estimated share based on evidence from various surveys, with projected
Green Offices All Offices
figures for 2022–23 based on responses to forward-looking questions.
Sources: CBRE, PMA, Real Capital Analytics, PGIM Real Estate.
As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 17TREND 8 | FOCUS ON GREEN INVESTMENTS INTENSIFIES
Compared with offices in buildings without energy Favorable relative pricing, a stronger rental growth outlook
certifications, green offices typically demonstrate higher levels and an obsolescence risk associated with assets that can’t be
of energy efficiency and have lower carbon footprints. While fully modernized mean that ESG criteria are set to be crucial
the effect of green credentials is hard to disentangle from in determinations of asset-level performance in coming years.
other building characteristics, there is increasing evidence that For investors, there will be opportunities to develop new, high-
buildings with environmental certification command higher standard buildings and to retrofit existing properties to meet
rents. An assessment of various studies in the UK and the tougher standards. All of it will come at a cost, but the risks
United States points to a green rent premium in the range of associated with older, poorer-quality stock that can’t be adapted
“
5% to 15%, with an average of about 10% (Exhibit 8b). or modernized are rising sharply.
Looking ahead, occupiers, like investors, are committed to
carbon emission reduction targets and increasingly see green
buildings as sources of competitive advantage and ways to
attract and retain talent.
In the United States, a clear separation is emerging between
assets with environmental certification and those without. Occupiers, like investors, are committed
Rental growth on LEED Platinum–rated offices is estimated to to carbon emission reduction targets and
have been stronger than for uncertified buildings in 2021, and increasingly see green buildings as sources of
illustrative forecasts point to that outperformance continuing in
the coming years.
competitive advantage and ways to attract and
retain talent.
Exhibit 8b: Signs of Green Outperformance Start to Emerge
Estimated Existing Global Green Rent Premium Range Illustrative Office Rental Growth Forecasts:
United States (% p.a.)
15%
5% Market momentum is pointing toward a clear separation
based on green credentials, as assets with a certification
4% such as LEED Platinum are expected to deliver stronger
rental growth than uncertified buildings.
Green premium 3%
Average
typically estimated to
estimate 2%
be in a 5–15% range
1%
0%
-1%
5%
-2%
2019 2020 2021 2022 2023 2024 2025 2026
Note: Green rent premium range is indicative, based on an assessment
All Offices LEED Platinum Not LEED Certified
of various studies that have published estimates.
Sources: PMA, CBRE, U.S. Green Building Council, CoStar, PGIM Real Estate. As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 18TREND 9
PERFORMANCE The significant gap between the best- and worst-
GAP STAYS WIDE
performing parts of the market is set to persist,
but sector differences are starting to narrow and
location is once again set to play a greater role in
driving relative performance.
One of the notable features of real estate performance during
the pandemic and now in the recovery-to-expansion phase has
been a clear widening of the gap between better-performing cities
and sectors and struggling parts of the market. The reasons are
well rehearsed, with investors targeting assets that have benefited
from stable income and favorable demand shifts — notably,
online retail driving logistics and remote work driving suburban
residential — over market segments such as high-end shopping
malls, which have faced elevated uncertainty and weaker occupier
performance.
The range of returns recorded across global markets has edged
back down from a peak of over 30% at the start of 2021 but
nevertheless remains well above historical norms (Exhibit 9a).
The wide performance gap contrasts sharply with much of the
previous cycle from 2011 to 2019, when returns were more
similar across sectors and cities. During that period, differences in
occupier performance were often overshadowed by the effects of
Exhibit 9a: Gap Between Best- and Worst-Performing Parts of the Market Still Wide
Range of Annual Prime Total Returns Across Global Markets (%)
35%
The divergence of returns has been
much more pronounced in the past two
30% years than it was during the last cycle
25%
20%
15%
10%
01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21
2011-19 High/Low Range: 90th Minus 10th Percentile 2011-19 Average
Source: PGIM Real Estate. As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 19TREND 9 | PERFORMANCE GAP STAYS WIDE
a structural period of yield compression driven by capital flows Several conclusions can be drawn. Clearly, performance gaps
and falling interest rates, which boosted values simultaneously are set to remain wide in 2022. Sector stories persist, and
across sectors and geographies. even within sectors, the difference between assets varies
significantly — notably, in the office sector, in which the
During the past couple of cycles, the pattern of returns really demand profile for modern, flexible, ESG-compliant space
emphasized the value of identifying so-called winning cities, is different from that of older, secondary stock. However, the
with large gaps frequently opening up between major sector performance gaps will narrow, and, gradually, portfolio
markets — especially during the global financial crisis, when, for decisions and diversification will once again become more
example, exposure to the financial sector gave rise to divergent heavily dependent on cities, where differences are driven by
patterns of real estate value movements. However, more fundamental characteristics, including supply constraints,
recently, cities have fallen behind sectors in being key drivers of physical land constraints, occupier sector mix, cluster benefits
performance differentials (Exhibit 9b). and workforce productivity.
That pattern is unlikely to persist. Already the gap is narrowing As the global economy continues its recovery from the
as retail markets stabilize and logistics returns start to settle pandemic, city differences are set to grow. The targeting of best-
down. Recent yield compression can’t go on forever, and so performing locations is set to once again be a key determinant
a deceleration is inevitable. To an extent, much of the sector of relative investment success.
differentials reflect a one-off adjustment in values to reflect
shifting patterns of consumption that are linked to, for example,
digital transformation and a change in the mix of retail and
logistics assets required as a result.
Exhibit 9b: Sector Effect Dominant Since 2019 but Set to Fade
Range of Annual Prime Returns Within Various Groups (%) Group Returns Ranges by Time Period (%)
30% 2010–19
In past cycles, the idea of . . . but that has given 16%
2020–21
winning cities that delivered way to a greater role 14%
25% higher returns was dominant played by sector rather 12%
10%
in portfolio construction . . . than by geographic 8%
20% divergence 6%
4%
2%
15% 0%
Sector Region City
10%
However, the signs are that this gap
is set to narrow as retail returns
5%
stabilize and city performance starts
to diverge a bit more again
0%
01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 21
Sector Region City
Source: PGIM Real Estate. As of December 2021.
PGIM Real Estate | December 2021 | REF: 002519 20INVESTMENT
RESEARCH TEAM
AUTHORS
DR. PETER HAYES, Managing Director, Global Head of Investment Research
GREG KANE, Executive Director, Head of European Investment Research
HENRI VUONG, Executive Director, Head of Real Estate Debt Investment Research
FLORIAN RICHTER, Vice President, European Investment Research
MATTHEW HUEN, CFA, Associate, European Investment Research
GLOBAL
DR. PETER HAYES
Managing Director
Global Head of Investment Research
peter.hayes@pgim.com
AMERICAS
LEE MENIFEE KELLY WHITMAN BRADLEY DOREMUS, CFA
Managing Director Executive Director Vice President
Head of Americas Investment Research kelly.whitman@pgim.com bradley.doremus@pgim.com
lee.menifee@pgim.com
DEAN JOSEPH DEONALDO PHOEBE KEEGAN YVONNE WHITE
Assistant Vice President Associate Associate
dean.joseph.deonaldo@pgim.com phoebe.keegan@pgim.com yvonne.white@pgim.com
EUROPE
GREG KANE FLORIAN RICHTER MATTHEW HUEN, CFA
Executive Director Vice President Associate
Head of European Investment Research florian.richter@pgim.com matthew.huen@pgim.com
greg.kane@pgim.com
ASIA PACIFIC
DR. CUONG NGUYEN KAI YIP YIWEN CHEN
Executive Director Vice President Analyst
Head of Asia Pacific Investment Research kai.yip@pgim.com yiwen.chen@pgim.com
cuong.nguyen@pgim.com
DEBT
HENRI VUONG
Executive Director
Head of Real Estate Debt Investment Research
henri.vuong@pgim.com
PGIM Real Estate | December 2021 | REF: 002519 21Important Information This material is intended for Institutional and Professional Investors only. All investments involve risk, including the possible loss of capital. Past performance is not a guarantee or a reliable indicator of future results. PGIM is the primary asset management business of Prudential Financial, Inc (PFI). PGIM Real Estate is PGIM’s real estate investment advisory business and operates through PGIM, Inc., a registered investment advisor. Registration as a registered investment adviser does not imply a certain level or skill or training. PGIM, their respective logos as well as the Rock symbol are service marks of PFI and its related entities, registered in many jurisdictions worldwide. PFI of the United States is not affiliated in any manner with Prudential plc, incorporated in the United Kingdom or with Prudential Assurance Company, a subsidiary of M&G plc, incorporated in the United Kingdom. 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Conflicts of Interest: Key research team staff may be participating voting members of certain PGIM Real Estate fund and/or product investment committees with respect to decisions made on underlying investments or transactions. In addition, research personnel may receive incentive compensation based on the overall performance of the organization itself and certain investment funds or products. At the date of issue, PGIM Real Estate and/or affiliates may be buying, selling or holding significant positions in real estate, including publicly traded real estate securities. PGIM Real Estate affiliates may develop and publish research that is independent of and different from the recommendations contained herein. PGIM Real Estate personnel other than the authors, such as sales, marketing and trading personnel, may provide oral or written market commentary or ideas for PGIM Real Estate’s clients or prospects or proprietary investment ideas that differ from the views expressed herein. Additional information regarding actual and potential conflicts of interest is available in Part II of PGIM’s Form ADV. Coronavirus: Occurrences of epidemics, depending on their scale, may cause different degrees of damage to national and local economies that could affect the value of the Fund and the Fund’s underlying investments. Economic conditions may be disrupted by widespread outbreaks of infectious or contagious diseases, and such disruption may adversely affect real estate valuations, the Fund’s investments, and the Fund and its potential returns. For example, the continuing spread of COVID-19 (also known as novel coronavirus) may have an adverse effect on the value, operating results and financial condition of some or all of the Fund’s investments, as well as the ability of the Fund to source and execute target investments. The progress and outcome of the current COVID-19 outbreak remains uncertain. These materials are for informational or educational purposes. 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