Real estate investor and Prudential Plc affiliate M&G Real Estate, which manages realty assets north of $5 billion in Asia Pacific, may be laying the groundwork for what could be an Asia-focused real estate vehicle — possibly a value-add one — in a couple of years. This vehicle is likely to be separate from its core real estate fund, which is more than a decade old.
The firm may not go as far as having an opportunistic fund, a riskier proposition, but “will stretch a bit to hit value add”, M&G Real Estate Asia chief executive Ng Chinag Ling told DEALSTREETASIA in a recent interaction.
“For one of our separate accounts, we will start doing more of value-add strategies, to not conflict with our current fund (core fund). Important thing is to not have many conflicts internally and to get that going with our separate account first. If we are very successful in a couple of years, we may consider going to third parties to see whether they want to come along,” said Ng.
She further added that it was a “tried and tested” for firms that start from opportunistic funds to move to core funds and those that start from core funds such as M&G Real Estate stretch to value add.
Last month, M&G Real Estate completed an initial close of its first value-add fund – the M&G UK Enhanced Value Fund (UKEV) — at £125 million. Interestingly, the seven-year, close-ended fund, which is expecting to invest £500 million by 2021, received a significant commitment from an Asian investor.
In the Asia Pacific, which is seeing a barrage of investments and region-focused realty vehicles, M&G appears to be in no rush to raise a fund.
“The market does look a bit expensive, so we are not rushing to raise a fund right now. We have enough capital to keep us going and play the waiting game if necessary. So, we will get there when we get there,” Ng noted when asked more about the timing and details of an Asia-focused fund in future.
Having been in Asia since 2006, it manages assets largely via a core real estate fund called M&G Asia Property Fund which it claims is the largest open-ended core fund in the region.
Investments from the core Asia strategy include a site in Kanagawa, Japan, that will see the development of a four-storey logistics hub at a cost of $113.2 million. It also acquired a Grade A office building in Australia for $90.9 million, a logistics asset in South Korea for $136 million and Higashi Ogijima Logistics Centre in Japan for $75 million.
M&G Real Estate is the real estate fund management arm of M&G Investments which, in turn, is the investment arm of Prudential Plc in the UK, Europe and Asia. The real estate investor with over £30 billion (including cash) has invested in a broad spread of properties across Europe, North America and the Asia Pacific region (as of 30 September 2017).
Can you talk about M&G Real Estate’s focus areas in the Asia Pacific?
Specifically, our focus is on five jurisdictions — Australia, Singapore, Hong Kong, Japan and South Korea. There is an ability to go into other markets in Asia but there are also a lot of limitations. A core fund is supposed to be low risk, relatively muted returns compared to a value-add and opportunistic fund. It has done well as we have been able to achieve 10+ per cent in returns at least in the last three to five years.
It is largely targeted at institutional investors. There is a secondary market that has been commanding a premium to the Net Asset Value of the fund, so that is good but typically we prefer to work with investors who are here for the long haul. Real estate is not that liquid an asset class. You would like to see your investment manager making improvements to property and improving the lease structure, taking an advantage when rents are going up and protecting downside by increasing leases. We like to think of it as being sustainable for the long haul rather than buy and sell. That is not our style.
So, what is your investor or LP base like?
The main cohort would be insurance and pension funds largely out of Europe and North America although we also get inquiries from High Net-Worth managers.
Do you directly invest in assets or even co-invest?
We directly invest and are open to co-investments as well. Our mandate does not restrict us from co-investing but a large part of our portfolio we do manage on a 100 per cent basis. We may co-invest sometimes due to the licencing reasons or for some strategies that require a partner to be there for 10-15 per cent. For example, we may have a very large shopping mall in Melbourne and for a property so large, we may need to team up with somebody.
Since you are almost like a GP, do you also invest as an LP into other funds that are focused on the Asia Pacific region or any realty segment?
For the most part, our resources are invested not in other people’s funds. Just a small caveat, we do have a separate mandate where some of our life business unit — because it is so large and global — does consider parking some of its money into other people’s funds. So, we do have a small advisory business that is an internal business and not marketed to outsiders. We only do it because it is our affiliate that is interested to extend its exposure beyond this fund. Real estate is illiquid and it does take time to grow your portfolio. In our world, if you can grow to a billion dollar, it would be awesome but in the bonds and equity world, it is not a big deal.
Are there any reasons in particular that you have stayed away from other parts in this region, mainly in Southeast Asia like Indonesia, Malaysia and Vietnam?
It is largely driven by the long-term core nature of our roots. These four or five jurisdictions are a lot more established and transparent. Liquidity is proven whereas in the rest of Southeast Asia you can see the potential but quite often one is impaired by title rights and also uncertain nature of how the lease could or could not be extended.
We just want more clarity and in certain jurisdictions, we don’t need to go in there today. There is no rush, it is a long haul. We are always watchful. In fact, in our general engagement with life business of Prudential, we always do SWOT team type work in other parts of Asia or Southeast Asia.
If you were to pitch this to a European or American client, all these technical questions come in and at this point in time, it is still difficult to make an easy case to go in a big way. For example, in Ho Chi Minh city, we have done a lot of work and we think a total of $3 billion of assets may be purchasable or investible but how much of that $3 billion would be for sale? Very little. So, do we want to make the effort to buy a $100 million asset and involve the management and all that comes into to make it work? We have to think twice if that is sustainable. We hope to be part of these nascent markets to grow their investible universe but we have to think well.
How about China? Would you say the same about the country?
I think China is probably a lot more advanced in terms of its evolution as a more core market. Cities like Shanghai and Beijing are core already. For us, we still go back to the point about how the lease is going to be extended. We don’t know actually. We also want to pick a point where we want to enter the market. It is a bit high now. China as a core market is becoming established and we are watching closely for the right entry point but right now there are enough things to do in our five focus markets.
Among the markets that you are, which ones are you most bullish on?
Most markets have their attractiveness. The simple one for us to put on a lower priority would be Hong Kong because of the influx of a lot of capital from China. We are more traditional in our approach to valuation and it does get tough to come up with a conviction. Everything is dependent on capital appreciation. I am not saying it’s not a good place, it is just that given the metrics, it is a lot harder. We have a very good business that is doing very well but that was done at a certain time. Beyond that other markets present very good opportunities. E-commerce, fintech disruption and others are here to play a role.
So, in terms of a proportion of global business, what percentage would be the Asia Pacific and where do you see it growing in the short term or long term?
It is a relatively smaller amount of our global business. We are growing but I think there are huge ambitions to grow this into a much larger chunk as a proportion of our business.
You already have a core open-ended fund but do you have any plans for a dedicated fund for Asia as a region or any other focus?
We are working on something more from a separate account structure first. If we are successful with the separate account in extending our remit of our product universe, we will be in a better position to be raising third party commitment funds down the road. I think it is a very tried and tested way for people who start from opportunistic to come into core and those who start from core like us to stretch a bit to hit value add. I don’t think we would ever do opportunistic because that is not what our core base of investors, clients or customers want. We are genuinely serving insurance and pension funds.
As part of our management of the core fund, we closed down a shopping mall in Singapore for ten months for restructuring. So that is a value-add initiative and having done a few over the past few years, we have gained a lot more confidence that this is stuff that is easy to extend into. So for one of our separate accounts, we will start doing more of value add strategies to not conflict with our current fund. The important thing is to not have many conflicts internally. The important thing is to get that going with our separate account first and if we are very successful in a couple of years, we may consider going to third parties to see whether they want to come along.
When are we going to see such a vehicle and what is it likely to be like?
It is probably too early to say. There has been a lot of interest in Asia recently and we are aware of that. Ultimately we are more focused on making sure our existing core fund continues to be the preeminent one. That is the core strategy. If we get this one thing right, everything else is going to be easier. We can be patient on other things. After all the market does look a bit expensive so we are not rushing to raise a fund right now. We have enough capital to keep us going and play the waiting game if necessary. So, we will get there when we get there.
What is your stance on valuations? Which way do you think they are headed and how do they pose a challenge while executing deals and other strategies right now?
It is definitely challenging. A lot of investors are looking at diversifying their portfolio to Asia which is making it doubly difficult. In Asia, there are still opportunities to leverage growth. Yes, the general consensus is that the cap rate cycle that we have seen has come to an end. There is a consensus that we should not depend on the cap rates depressing further. It is important to have the capability to drive income.
In real estate, the odds are not bad. If the interest rates are going up, we would like to believe that the underlying economy is strong and real estate has been a great hedge for inflation. If you see, the real estate market in Singapore was very quiet till last year and when the economy started to look good, you also find that rents are going up in the last quarter or two. There may be lags, but as long as one is investing in cities and economies that have strong potential to grow, you are probably okay.
In terms of core focus areas in segments like logistics, commercial and residential, which one are you skewed towards?
The easy one is logistics. Across the region, e-commerce is eating into retail. We have retail assets but we are also trying to hedge our bets in terms of logistics assets. The Korean logistics in Seoul, we bought one in Tokyo so that would still be a focus. There seems to be a need for modern and best-in-class logistics assets. In certain cities, office is the focus. Residential continues to be of interest for us in Japan. These are the three main themes that we will focus on.
On an average, what would be the ideal size for an investment that you make?
We struggle to think about investments below $70 million. It gets to a point where we think, do we really want to make that effort? Anything more would be ideal for us.
How have exits been for you? How has it been for the sector?
For us, we invest in something thinking we will hold it long term. I don’t think in this sector, we have got caught thankfully. Those who invested in the pre-GFC cycle may have had to hold it longer.