Strong fundamentals combined with declining interest rates may provide a tasty opportunity in the realm of listed real estate in 2024. 

As any accomplished baker knows, a delicious cake is built upon a sturdy foundation of flour, eggs, and sugar. Yet, what really sets a great cake apart is that extra special ingredient – such as a ripe, juicy cherry. 

We believe this is a fitting analogy for the current state of the listed real estate market. Strong fundamentals – such as higher potential returns, inflation protection and strong demand – are complemented by the added treat of declining interest rates. 

We first addressed this topic last year in our whitepaper, Listed Real Estate: A tactical opportunity hard to ignore. We argued that the decline in valuations of listed real estate companies seen in 2023 due to rising interest rates offered the chance to pick up undervalued assets ahead of an expected ‘once-in-a-cycle' upside correction. This has broadly materialised, thus far – but the pudding may yet be to come. 

The scenarios presented are an estimate of future performance based on evidence from the past on how the value of this investment varies and/or current market conditions; these are not exact indicators for future performance. As with any modelling/scenario analysis, there is a degree of uncertainty. Exact performance will vary depending on how the market performs and how long the investment/product is held. 

The cake: a foundation of layered strengths
Just as a delicious cake is built upon a sturdy foundation of essential ingredients, the attractiveness of listed real estate rests on a bedrock of fundamental strengths. This asset class offers a unique combination of stability, growth potential, and inflation protection, potentially making it a compelling opportunity for investors seeking diversification and long-term value creation. 

• Potential for elevated long-term investment returns: we continue to target a greater-than-9% annualised net return (after costs) at current entry levels for our global strategy, underpinning the stability of returns through-time.
• Growth potential: 2024 should bring far greater visibility on key factors, including interest rates, inflation, and the economic impact from a slowing economy. We believe that demand for property should remain healthy, driven by robust labour markets and wage growth, resulting in the ability for outsized rental growth.
• Inflation Protection: the past two years have provided evidence of the inflation-protection qualities of real estate. While rising rates have impacted property valuations, rental growth has continued at a healthy pace. This has led to sustained growth in cash flows, demonstrating the inherent ability so far to weather inflationary periods. 

The cherry: declining interest rates 
The past two years have proved to be a difficult environment for listed real estate, with economic uncertainty and high inflation causing government bond yields around the globe to rise significantly. This has had a negative impact on property valuations. Declining rates however could lead to significant gains for listed property companies.

Expectations now broadly favour interest rate cuts across the next few quarters. As interest rates decline, property valuations tend to increase as lower rates will make property investments more attractive to both institutional and retail investors. If this scenario materialises, this could lead to significant gains for listed property companies: the proverbial cherry, adding an extra touch of sweetness to the already appealing cake. 

Transaction markets back in action? 
With improving economic conditions and higher visibility on rates and inflation, we can expect a resumption of transaction activity in the market at a more normalised pace. This should provide listed real estate companies with opportunities to acquire attractive assets at tasty prices. Given their typically low-leverage position, these companies are well positioned to capitalise on such situations. Lower interest rate volatility particularly should provide a tailwind for the transaction market, despite base rates being higher globally.

ESG: an important ingredient in our investment process
In addition to the traditional components of our investment process, we are on a mission to optimise our ESG framework recipe - using exclusively homemade ingredients. Our primary focus has been on improving the environmental and social analysis of the global property sector. 

Climate change continues to pose severe challenges for real estate investors, threatening their portfolios through physical asset damage, rising insurance costs, and the increasing frequency and severity of extreme weather events. Addressing this issue requires a multi-layered approach, including adapting building practices to withstand climate hazards, investing in strategies aiming at resilient and sustainable properties, as well as adopting risk management strategies that mitigate potential losses. 

While the sector as a whole has made substantial progress on accounting for climate risk, significant work remains to be done. Last year, in our ‘Listed Real Estate ESG Analysis 2023’ , we used our proprietary environmental pathway framework to demonstrate a concerning lack of substantive carbon reduction targets across listed real estate companies. 

We are also in the process of adding our newly developed social framework to our current recipe; this will include assessments of the robustness of employee, community, and tenant relations. Have a look here why the S of ESG shouldn't be ignored as a factor of future return generation and engagement. 

Looking ahead
As we move into 2024, we believe that the prospects for listed property look bright. The combination of solid fundamentals, the potential for falling interest rates and a healthy demand outlook could make this asset class an appetising prospect for anyone with a sweet tooth for potentially robust, long-term returns. 

Of course, there are always some risks to consider, especially if interest rates increase instead of decline. Then it may have an adverse impact on the values of the underlying properties, and it could also have an impact on the cost of debt. There is also a risk within a slowdown of the economy. This can impact certain real estate sub-sectors’ occupancy rates and cause temporarily lost income and thus adversely impact a company’s ability to pay dividends and/or its ability to service its debt.