US office recovery will be slow in volatile market: Korean investors

Increased rates will impact global real estate deals and slash property values, according to major institutional investors in South Korea. The US office sector will see a very slow recovery in the uncertain and volatile market, the institutions’ real asset managers said on Thursday at ASK 2023, the biannual forum on global alternative investments hosted by The Korea Economic Daily at Conrad Seoul.

The outlook on global real estate and infrastructure was discussed by real asset management heads from National Pension Service (NPS), Korea Investment Corporation (KIC), Kyobo Life Insurance Co. and Government Employees Pension Service (GEPS) on May 18. The session was moderated by Gabriella Aram Woo, senior director at Savills Investment Management.

ADD CAPITAL TO CLEAN ENERGY, DIGITAL INFRASTRUCTURE: NPS

NPS, the world’s third-largest pension fund, is raising exposure to alternative investments to enhance the diversification and stability of its asset portfolios in volatile markets. Infrastructure performed well this year thanks to its nature, such as the correlation between the assets’ revenue rise and high inflation, said infrastructure head Hwang Mi-ok.

The pension fund will intensify risk management for its existing infrastructure portfolio this year, while taking a selective approach to undervalued assets in promising sectors with high growth potential, she added.

The state-run fund is managing 939 trillion won ($701.8 billion) in assets, including alternative investments worth 152.2 trillion won as of end-February. Infrastructure is valued at 38.5 trillion won, and global properties account for 72.8% as of end-2022.

“NPS primarily invests in infrastructure under operation in developed countries, which generates revenue via government regulations. Although rate hikes increased discounts and slashed the valuation of some global infrastructure, the inflation-linked asset class was resilient and bulked up cash flow last year,” said Hwang.

The pension fund is more focused on new investments in growth sectors this year, rather than adjusting regional exposure. It is closely watching energy transition and digital infrastructure and considering new investments in these segments, she said.

MORE PRUDENT IN UNCERTAIN MARKET: KIC

KIC expects the global office segment to see a widening of the persisting flight-to-quality trend, said the sovereign wealth fund’s real estate head Cho Bum-lin (Thomas Cho). He took the position last year after working at Qatar Investment Authority (QIA) for eight years from 2014. 

Established in 2005 under the finance ministry, KIC is wholly investing overseas. It manages around 224 trillion won in assets as of end-2022, including 51 trillion won worth of alternative investments. Real estate amounts to 22 trillion won.    

“Many employers today maintain three to four days of remote work per week and at the same time they struggle to get more workers back to offices by enhancing the quality of the workspace. This will expand the gap between top-quality offices and the others,” he said.

KIC has focused on well-diversified portfolios by closely monitoring secular trends, which helped the fund avoid the impact on offices and other sectors hard hit by the pandemic, he added.

Amid uncertainties in the market, the state-run fund will be very prudent to execute new investments and will intensify management of existing portfolios, the real estate head said.

RATE HIKES CHALLENGE DEBTORS' REFINANCE: KYOBO LIFE

Infrastructure benefitted investors last year as the asset class is linked to inflation and resilient to economic ups and downs, said Kim Chan-woo, overseas alternative investment head at Kyobo Life. On the other hand, the real estate sector was hard hit by rate hikes and remote work trends, he noted.

“This year is very tough for us. Many real estate firms have postponed or canceled early redemption due to increased rates and are giving up on refinancing. So, institutional investors have fewer opportunities for reinvestments in debts,” Kim said.

“In preparation for such cases, we are seeking extension of loan maturities through discussion with senior lenders and debtors. But it's not always easy to deal with the situation when the senior debts are commercial mortgage-backed securities (CMBS) that have more complicated structures than other financial products. We strive to find solutions for such difficult cases, like rescue financing for debtors,” he added.

He said high inflation benefitted the valuation of Europe’s regulated assets such as public-private partnership (PPP) infrastructure so far this year. But the increased valuation will raise the burden on consumers, and eventually, the regulations will be amended in an unfavorable way to investors, which investors should keep in mind for new commitments, he added.

The insurer will shift its focus from European core assets to North America-based core plus and value-add real estate, Kim said.

Kyobo Life manages 116 trillion won in assets as of end-February. Of alternative investments worth 24.7 trillion won, overseas assets make up 27%. Real estate assets are valued at 8.7 trillion won, of which overseas properties account for 25%.

STABILITY OF PORTFOLIO TOPS CONCERNS: GEPS

GEPS prioritizes the stability of the portfolio amid interest rate hikes, said Ted Ro, alternative investment head of the government workers' fund.

"We are carefully watching the correlation between assets. For example, data centers, which are classified as real assets in alternative investments, may see their valuation affected by the Nasdaq. Our pension fund focuses on mitigating such impact," Ro said. 

The pension fund will slow investments in US offices as it is unclear when workers will fully return from their home offices. It also sees more US office renters today requiring tenant improvements, or renovations of leased space, compared with requests for rent-free period in the past – such changes in overseas trends are also difficult to expect, he added. 

The retirement fund sees 2023-2024 will be good vintage years and will increase new investments in blind pool debt funds, Ro said.

GEPS is managing 10 trillion won in assets as of end-February. Alternative assets amount to 2.5 trillion won, and real estate and infrastructure in aggregate are valued at 1.1 trillion won.

(Updated with Cho's comments)

Write to Jihyun Kim at snowy@hankyung.com

Jennifer Nicholson-Breen edited this article.