Increasing cross-border capital flows are inevitably leading to greater global integration in commercial real estate. But integration is not happening at every level in every market. The largest cross-border investors focus on one layer of the market only.
This layer of the market be priced differently, for some or all of these reasons:
- Due to investors’ risk free rate (RfR) being different to local investors’ RfR
- Due to this layer’s objectively lower risks and therefore lower risk premium
- Due to different motivation: capital preservation rather than most return per unit of risk
- Due to different risk sensitivity (more attuned to political risk, less concerned with volatility)
- Due to Merton’s investor recognition hypothesis
The characteristics of this market layer are:
- Reliable liquidity
- Transparency
- Big lot sizes
- Locations with recognised brands
A key issue is the effect of this trend (towards global integration) on market pricing, which we will quantify.
Bond investors might call this layer triple AAA; equity investors might call it blue chip; real estate does not yet have a corresponding label.
The trend has implications for indices, valuation (potentially), asset allocation and market structure.