Germany Sector Outlook
- The corona pandemic is hitting the German economy hard. According to current figures from the Federal Statistical Office, gross domestic product (GDP) for Q1 2020 fell by 2.2% compared with the previous quarter - adjusted for price, seasonal and calendar effects. This was the sharpest decline since the global financial and economic crisis of 2008/2009 and the second sharpest decline since German unification. Only in Q1 2009 was the decline even more severe at -4.7% compared with the previous quarter.
- Consumer spending by private households fell sharply in Q1 2020. Investments in equipment also fell significantly. By contrast, government consumption spending and construction investments had a stabilizing effect and prevented an even sharper decline in GDP.
- The decline in the growth rate of gross domestic product is specially severe in the second quarter and this quarter is marked by a deep recession, so that we expect economic output to decline by 5.8% for the whole year 2020. At the same time, the unemployment rate is likely to increase temporarily.
- According to our current baseline scenario, which is the most likely scenario based on the current information, we expect the situation to normalize over the summer and the economy to become more dynamic again. For 2021, we expect a strong recovery and a GDP growth rate of 5.6%.
- Above all, the federal government's total funding of € 1.1 trillion (or 30% of GDP) and the short-time work scheme that has already proven its success in the global financial crisis should come into play in the coming weeks and months, and to cushion the negative effects of the corona crisis on the economy.
Impact on the German Economy
Real GDP index (Q4 2019 = 100)
Source: CBRE House View, May 2020.
- In the first quarter of 2020, we registered a combined transaction volume of almost €28 billion for commercial real estate and residential portfolios, as we can see on the chart here. Compared to the first quarter of 2019, this is a significant increase of 97%, which is mainly due to two larger platform deals of around €10 billion. Ado Properties acquired a majority interest in Adler Real Estate and Aroundtown acquired a majority interest in TLG Immobilien. But even without these two major transactions, the investment volume in the first quarter rose by 26%.
- Due to corona, the review and decision-making processes currently take longer. As a result, some investors are likely to wait and see how things develop in the second quarter, so that the investment dynamic could temporarily lose some momentum. Nevertheless, negotiations are currently continuing as planned without delay and transactions - including large-volume transactions - are taking place in all asset classes, although some products are temporarily not being launched on the market due to increased uncertainty. This is likely to change in the second half of the year, especially as demand remains strong.
- In the core segment in particular, there is still a significant product shortage, as the focus is once again increasingly on top locations. For this reason, we do not expect prime yields to rise here at present, but rather assume a sideways movement for the rest of the year.
- In general, the issue of secured cash flows is gaining in importance on the investment market, thus increasing demand for investment products that are stabilized in the long term. The expansion of the ECB's bond purchase programme continues to ensure a low interest rate environment, so that the positive spread of real estate investments will lead to a further reallocation towards real estate among national and international investors.
- In addition, many investors have not yet exhausted their exposure to Germany, so we expect a further excess demand. In particular, equity-strong investors with low leverage should become even more active in the German investment market. On the banking side, financing arrangements that were initiated prior to the crisis are currently being processed, but genuine new business continues to be generated selectively. We currently see restrictions primarily in the financing of value-added and opportunistic products.
Real estate transaction volume Germany total
Q1 2020: Platform deals (majority interests) of aprrox. € 10 billion
Source: CBRE Research, March 2020; * Transactions of multifamily properties and platform deals of more than 50 units.
- In Q1 2020, the letting volume on Germany's five most important office markets was around 567,000 sq m. Compared to Q1 2019, this is a decline of around 24% - also due to the continuing shortage of high-quality space in the city centre locations.
- In addition to these new contracts, around 68,000 sq m of lease extensions were registered, which are not included in the classic office space take-up, but which are increasingly becoming an option for users, particularly in narrow markets such as Berlin, Hamburg or Munich, but also in the central locations of Frankfurt, in order to secure high-quality, modern office space for their employees.
- At present, large-scale applications from consultancy firms, lawyers, the public sector and tech companies actively supported by CBRE are continuing to be handled professionally as usual.
In the Corporates segment, location decisions and new leases based on the CREM strategy, which has been adapted to the current situation, are being examined more closely with regard to workplace strategy, space productivity and, above all, well-being and job security, with the help of professional advice. Accordingly, the decision-making processes sometimes take somewhat longer.
On the other hand, there is also no worrying about oversupply of office space. On the contrary: at 3.4% at present, the average vacancy rate in the top 5 markets remains far below the natural vacancy rate, which limits the room for manoeuvre of companies looking for high-quality office space. The new office space that was completed in the first quarter of 2020 did not change this development either.
Many of the new developments still coming onto the market are also pre-let or occupied by owner-occupiers. Of the space to be completed by the end of 2020, 76% has been pre-let; for 2021 the figure is more than half.
Against this backdrop, we do not expect any dramatic distortions on the letting markets, but we do anticipate somewhat more concessions on the part of owners with regard to the awarding of incentive packages. In addition, there are signs of a trend towards longer lease terms in order to secure the landlord's cash flow from current leases accordingly. Furthermore, landlords are likely to focus even more strongly on the creditworthiness of tenants in the future in order to better assess the risk of a possible loss of rent.
The shortage of office space and the focus on high-quality Class A-rated space has recently led to further increases in prime and average rents on all top 5 markets. However, by international comparison, the local property markets remain relatively favourable.
At present, we expect prime rents to stabilise at the current level due to the economic situation. In the medium term, we expect rents to rise again, although their growth momentum will be more moderate in future than before the pandemic.
Office Market Top 5
High pre-letting rate protects from drastic disruptions
Source: CBRE Research, April 2020.
High pre-letting rate protects from drastic disruptions
Source: CBRE Research, April 2020.
- Since 11 May, retail shops have been open again nationwide, subject to compulsory compliance with hygiene regulations, and since 25 May restaurants has again been permitted throughout Germany, subject to compliance with federal state-specific conditions.
- The impairments caused by the lockdown and the social distancing measures will further increase the already existing pressure on the stationary retail trade caused by the rapid growth of E-commerce.
- Retailers are increasingly turning to landlords with requests for deferral of rent payments, rent reductions and temporary contract adjustments or a shift to turnover-based rent instead of basic rent.
- However, we are observing a very different behaviour of the actors on both sides. In view of the current situation, it goes without saying that a cooperative, solidary and pragmatic cooperation is essential, while unilateral announcements or blockade attitudes are certainly not the right way forward.
- In the long term, it seems likely that retail leases will be concluded predominantly based on turnover-based rents and that pandemic clauses will be systematically included in new rental contracts.
- An increased risk of insolvency (especially small and medium-sized retailers without a functioning online channel and catering businesses) can be assumed; the examples known so far show that affected companies were already in economic difficulties before.
- Rental contract extensions or new leases are currently only being recorded for absolute top properties or for certain sectors that are benefiting from the current situation (such as telecommunications).
- New rental agreements - especially in small and medium-sized towns and in secondary locations in large cities - are likely to be concluded at a lower rent level in future than before the crisis; the position of retailers in these areas is correspondingly strong when it comes to extending and renegotiating rental agreements.
- Accordingly, hardly any contracts are being concluded at the moment, as tenants and landlords have different expectations and must first come together again at a level acceptable to both sides.
- Exceptions are however:
- Luxury locations present themselves as crisis-resistant and show a development that is not linked to the development of consumer locations
- Supermarkets, hypermarkets and specialty shopping centers in particular have proven to be systemically relevant and are not affected by the crisis at all
- In the top German cities in particular, tenant defaults and vacancies will only be noticeable for a short time and will be quickly absorbed by the market, especially as foreign concepts in particular want to continue to tap into the German market with its great purchasing power potential.
Retail sales in April 2020 by sector
Change compared to the prior-year period in % (real)*
Source: Destatis, CBRE Research, June 2020. *Note: not calendar and seasonally adjusted
- Logistics is seen as one of the best asset classes to weather the current storm, with the importance of fundamentals like e-commerce reinforced potentially with a lasting effect.
- The most important demand sector in Q1 2020 was retail, including very strong online trading. Here, take-up rose by 22% to 600,000 sq m, which accounted for almost half of the take-up in the first quarter. In contrast, take-up by production companies and logistics service providers declined due to the economic situation.
- E-commerce companies are still looking for space, even more than before, including corona-based short-term leases with terms of 6 months to 2 years.
- Negotiations with tenants are continuing and will be concluded, as are ongoing project developments.
- On the one hand, most developers are still willing to buy land.
- On the other hand, speculative developments have been restrained, partly because financing for such projects is currently more difficult; built-to-suit projects unimpressed by the current situation.
- There is still a shortage of high-quality, modern logistics space, which is reflected among other things in the low vacancy rates of between 2% and 4% depending on the market. The volume of new construction is also limited due to the lack of available land and the fact that construction industry capacities are also fully utilised. This has a corresponding effect on rents, which are stabilising at their current level in view of robust demand - increasingly from the pharmaceutical and medical equipment sectors.
- Many companies are currently experiencing the disadvantages of just-in-time logistics and sensitive global supply chains that are trimmed for absolute cost efficiency. Should companies in the future therefore diversify their supply chains more, rely on more local suppliers and larger domestic inventories and possibly also decide to increase production in Germany, the demand for logistics and production space in Germany is likely to continue to increase after the current crisis.
- As a result of the Corona crisis, almost every company has to readjust its logistics-related processes in order to better secure the much-cited supply chains. It has just become clear how systemically relevant logistics is for our society and our economy. Logistics management in this context and thus also the requirements for logistics real estate are thus becoming more prominent in the general perception. However, the increasing degree of complexity here requires an even more detailed, data-based market and property analysis for sustainable location decisions.
Take-up logistics market Germany
Letting market Q1 2020 underpinned by e-commerce
Source: CBRE Research, March 2020.
- Current figures from STR show that, as expected, the lockdown has taken its toll on the hotel industry. For example, revenues (RevPar) in May 2020 across Germany fell by 88% y-o-y; the occupancy rate fell from 76% to 12% in the same period.
- Among the top 7 locations, the markets in Stuttgart, Düsseldorf and Berlin were particularly affected by this, as they had to cope with the almost complete standstill of air traffic and the absence of trade fair visitors and tourists. However, it is becoming apparent that the easing measures introduced are slowly leading to a certain revival in the hotel industry, although the sector is facing a wave of bankruptcies due to the loss of revenues and weak liquidity - especially among smaller hotel operators. Larger hotel chains have also approached the landlords to seek solutions together with investors. Many hoteliers wish to share the operating risk with the investor during the crisis.
- Hoteliers argue that they cannot bear the operating risk alone if operations are severely restricted. Thus, the issue of operating risk, liquidity and creditworthiness of the operator is moving into the focus of investors and will certainly have a major impact on the future contract design and thus the hotel investment market, future players and returns.
- With the exception of individual transactions, the hotel investment market has almost come to a standstill recently. At present, it is difficult for most traditional institutional investors to give a green light to hotel acquisitions from their investment committees. The exceptions are hotels and projects in the core segment, which continue to be traded at high prices due to their resistance to the crisis. In the other segments, uncertainty is still high, and many are in a wait-and-see position. In the short term, the hotel investment market will therefore take a breather, partly due to the current restraint on the part of banks.
- On the banking side, the financing of hotel properties has become more restrictive, which is reflected in higher margins and lower loan-to-value ratios. For the time being, the banks will probably concentrate on providing their existing top covenant customers with financing for hotels in good locations.
- Since mid-June, the restrictions on hotel and holiday operations in the individual federal states have been relaxed. In general, we expect a gradual recovery in demand in the most important major travel segments, although the extent of this will vary:
- Domestic/city travel will be the quickest to benefit from the further relaxation (lifting of some travel restrictions). By international comparison, tourism in Germany is very strongly influenced by domestic tourism and could grow further due to Corona.
- The recovery in demand for international travel will take longer, with short-haul traffic recovering before long-haul traffic. This also depends to a large extent on the opening of the respective borders and the pandemic course of the countries of origin. With the end of the travel warning since 15th June for most EU and Schengen states, Germany's external borders are also open again.
- Leisure travel will probably experience an immediate surge in demand, especially in connection with overnight stays.
- In general, the growth rate of business demand for hotel services has been lower than the growth rate of leisure demand over the last decade. As general economic activity picks up, business travel is expected to pick up again, but booking numbers are expected to remain below "normal" levels in the short to medium term.
- Multifamily sector could emerge as the winner of this crisis, as housing is considered one of the most important basic needs.
- Multifamily investments are very defensive and the sector is a stable asset class with low risk of rent losses due to atomized tenant structure and high granularity of rental payments, especially as the social state support system secures and stabilizes rental payments.
- The German residential rental market is characterized by very low vacancies. Particularly in regions with a strong migration surplus, a long-term excess demand and simultaneously low new construction activity, rents will stay stable in the short- and midterm. In the long term the trend of increasing rents might continue. It remains to be seen if potential additional migration from the (economically weakened) periphery of Europe increases the housing demand in German metropolises further.
- Currently large scale multi-family investment transactions €100+ million keep on running with high particitpation of equity driven investors. The market is characterized by solid dynamics and with a lot of new business. Up to know, we know of only one transaction that has been stopped because of COVID-19 due to the intervention of the financing banks, which is rather an exception.
- We expect a further increase of the demand for multi-family investments, particularly in H2 2020, especially since institutional investors in particular are increasingly shifting their portfolio allocation towards residential properties.
- COVID-19 price discounts or a drop in prices cannot be observed.
- The healthcare sector is currently the focus of attention, even for real estate investors.
- In the first quarter, almost €400 million was invested in the German market for healthcare properties. The transaction volume was thus 7% below the level of the beginning of the year 2019.
- In recessive market phases, investors are looking in particular for properties with long-term leases with low correlation to the economy.
- We expect that the importance of the health care system and thus also financial policy budgeting will strengthen health care properties and their sustainable cash flows. Healthcare properties with their low capital values, long-term leases and high occupancy rates are therefore increasingly seen as a safe haven in more turbulent times.