Real estate fund managers have warned owners of the risk of holding assets stuck in real estate portfolios.
Speaking at Schroders’ investment conference in Edinburgh on Tuesday, as COP26 takes place in Glasgow, Schroder Global Cities property manager Tom Walker (pictured) said landowners would find themselves sitting on battered assets if they did not ensure that the buildings meet certain environmental standards.
Walker warned they face heavy capital outlays to make homes, apartments and offices greener and that not having the means to comply with the law could leave them with stranded assets.
The concept of stranded assets in the context of real estate refers to properties that will not meet future energy efficiency standards and market expectations as part of a net zero crossing, and therefore could be exposed to risk. early economic obsolescence.
See also: Camilla Ritchie: ESG opportunities in brick and mortar
The investment bill to become greener is accelerating
Legislation aimed at solving the problem is increasing. Under the Minimum Energy Efficiency Standards (MEES) for Energy Performance Certificates (EPCs), all rented non-residential buildings will require an EPC rating of at least C by 2027 and B or greater than by 2030.
According to a report by the UK property exchange IPSX and Carbon Intelligence, published in August, 90% of the EPCs on the UK National Register are below B. The report says this rating could affect the way buildings are valued and those that are not could be made useless.
Walker told conference delegates the industry still has a long way to go to meet these goals and warned some owners could be caught off guard due to the speed with which legislation is being implemented and the costs. associates.
âIn London today, we think about 90% of all assets have an energy performance certificate of C or less,â Walker said. “There is a huge investment bill, so you’re going to hear a lot more about stranded assets.”
He added: “High investment bills are going to dilute returns, so there is a very serious warning because right now we are in a ‘gradual’ phase but there is going to be a ‘sudden’ moment.”
Investors will need to focus on renovation, according to the IPSX and Carbon Intelligence report, as 70-80% of buildings built today will still be standing in 2050.
Commenting on the report, Oliver Light, Real Estate Business Director of Carbon Intelligence, said: Will also end up having to invest as much or more to avoid non-conformances, voids or high discount rates associated with obsolescence.
See also: ‘Embarrassing’ tenants create ESG puzzle for real estate funds
Follow the route to net zero
Mayfair Capital portfolio manager Simon Martindale, who heads the Property Income Trust for Charities (Pitch), agrees building standards and efficiency requirements are changing rapidly and are expected to tighten further following COP26 and the renewed focus on net zero.
Martindale believes that the degree of risk and exposure of stranded assets will be the result of two factors. First, the quality, age and efficiency of the portfolio; and second, the degree to which that risk is managed through proactive asset management, that is, the continuous upgrading of properties to keep the risk associated with stranded assets at bay.
To stay on top of the risks at Pitch, Martindale and the team perform modeling using the Carbon Real Estate Risk Monitor (CRREM), an EU-funded research project that provides industry with âAppropriate science-based carbon reduction pathways in construction, portfolio and enterprise level and with financial risk assessment tools to cost-effectively manage carbon mitigation strategiesâ.
Martindale said Pitch uses information from CRREM to inform on-site refurbishment plans, efficiency upgrades and renewables.
âIn many cases, this process requires the collaboration of tenants, which we believe reinforces the importance of lean portfolios and strong customer relationships,â he added.
Last month Martindale said Portfolio advisor how Pitch works with the underlying tenants of the portfolio, who are responsible for the provision of utilities, to address energy efficiency.
Axa Investment Managers recently announced that they are using CRREM to identify possible stranded assets in portfolios. The asset manager’s goal is to align at least 50% of its direct real estate assets under management on the 1.5 degree trajectory by 2025.
Likewise, in March of this year, Abrdn announced that it was aiming for net zero carbon by 2050 for its real estate investments, which cover around 1,600 properties, and it too uses CRREM to assess its progress.
Commenting at the time on the challenges to achieving net zero carbon in real estate, Abrdn’s head of private ESG markets, Dan Grandage, said: âOwners do not always directly control the operational carbon emissions associated with assets. that they own and manage. There are also issues with collecting data from occupants and with current estimate benchmarks not covering all types of properties or all geographic areas.
âOther challenges include a lack of definition and agreement in the real estate industry on a net zero definition. “
Cohen & Steers portfolio manager and senior research analyst Leonard Geiger noted that the push for energy efficient buildings is not just coming from governments, but also from tenants and landlords. Properties that do not meet these criteria could be subject to fines or other enforcement action – and some have a lot of work to do to avoid that fate, he noted.
âIn the top 10 UK property markets, 80% of rented properties were rated A or B in 2020. However, 10% of office buildings in London’s central business district were rated below E, which could make them practically obsolete by 2023, âhe said. added.