8Given employers in Australia are required to pay the equivalent of 9.5 percent of their workers’ earnings into a superannuation fund, the country’s pension system is among the largest in the world. Collectively, the funds’ assets at mid-2018 stood at A$2.7 trillion (€1.7 trillion), according to the Australian Prudential Regulation Authority.
When advisory firm Willis Towers Watson ranked the 300 largest pension funds on the planet in September, using end-2017 data, 17 of the entries were occupied by Australian entities. Taking sovereign wealth giant Future Fund out of the equation, the largest antipodean organisation in the list – coming in at number 32 – was AustralianSuper.
Today, the company’s assets under management stand at around A$145 billion, around €90 billion, making it the largest superannuation fund in the country. As part of its drive to invest its huge reserves of capital, AustralianSuper became, in September, the latest high-profile entrant into a market far from home – Europe’s commercial real estate debt space.
Its debut deal was the development financing of a mixed-use project in London; the 370,500-square-foot One Crown Place, a complex including offices, shops, luxury flats and a hotel, being developed by Malaysian company MTD Group. AustralianSuper provided £230 million (€262 million) of construction debt, with real estate investment manager TH Real Estate providing an additional £50 million.
The deal, an announcement made clear, represented the first piece of business from a longer-term property debt mandate, through which AustralianSuper has appointed TH Real Estate in an advisory capacity. In its sights, the joint announcement revealed, are financing opportunities in London and other major European cities, with a focus on mezzanine and development or refurbishment opportunities. In an indication of scale, the firms said deals would be above £100 million.
It is an ambitious target for a new entrant into Europe’s property debt space, so what is motivating AustralianSuper’s desire to lend against bricks and mortar on the other side of the world?
For AustralianSuper, real estate debt falls under what the firm calls its ‘Mid-Risk’ division, alongside infrastructure, property and credit. The division was recently created to bring together its unlisted assets. Nick Ward (pictured), who has been with the organisation for seven years, handles real assets debt investments, including infrastructure and property, in the Mid-Risk division.
“Given some of the prices being paid for property assets are fairly full at the moment on a relative basis, we have a preference to invest through debt,” he tells Real Estate Capital on the phone from Melbourne.
The pension fund is a relatively young investor on the global real estate scene. Around five years ago, it pushed into real estate equity investment, creating a direct property portfolio internationally. Including fund investments, it now has more than the equivalent of €6.1 billion in the property equity portfolio, accounting for around 7 percent of the overall fund.
“Real estate assets have generally performed strongly since the global financial crisis, largely because of low global interest rates,” Ward explains, “but this interest rate cycle will end soon, taking away the tailwind driving capital values. So, the equity return is becoming more challenging to source. Through debt, you can achieve similar returns to equity, for a lower risk profile.”
It is a rationale increasingly familiar among investors, but why seek property debt investments in such far-flung climes? The answer, Ward says, is that the relatively small size of Australia’s property market makes investment on the desired scale difficult. “An advantage we have as the largest pension fund in Australia is our large balance sheet, which means we can go for the higher-profile deals. We’re definitely driven off-shore because of the size of the assets we want – there are not so many large opportunities [in Australia] as in North America or Europe.”
AustralianSuper’s relationship with TH Real Estate in Europe began in 2013, following which direct property deals have included the 2013 purchase of a half-stake in a Milton Keynes mall, plus purchases on the King’s Cross estate in London. AustralianSuper, Ward is quick to add, has a London office, located on the latter estate.
Such factors, he says, provide “comfort” for the firm when it comes to European property. “We would be comfortable with France, Germany, Spain,” he adds, “clearly each market has its own unique characteristics.”
In North America, AustralianSuper has a partnership agreement with Principal Real Estate Investors, through which it has completed its maiden loan deal in the market. In December 2017, it wrote a $219 million mezzanine loan to Brookfield’s BRESP II fund for its purchase of the Houston Centre – a 4.2 million-square-feet office complex in the Texan city. As well as part-funding the acquisition, the financing provided future funding for capital improvements to the scheme.
“We made a loan in the mezzanine space in the US late last year and we’ve seen the market there continue to compress returns,” says Ward, hinting where the firm’s European interest may lie. “What’s interesting is the UK in the development finance space.”
The high-yielding nature of the firm’s first European and North American deals suggest it will seek an element of risk to drive returns. “On the credit side within our Mid-Risk division we are largely interested in both development or refurbishment and mezzanine opportunities,” Ward explains. “We compare opportunities through our Mid-Risk lens which means looking across infrastructure equity, property equity and credit. We think about returns on a swapped-to-Aussie basis. To be attractive within Mid-Risk, we are talking about returns of 7 to 9 percent, swapped to Australian dollars, meaning loans need to be written at margins of between 400 and 600 basis points over Libor in a UK transaction, for example.”
The One Crown Place deal, a senior secured position, with upfront fees and drawn margins, provides similar returns to a mezzanine position, at the tighter end of the 400bps to 600bps range targeted. Development finance, due to banks’ limited scope to satisfy the market, is a target, Ward explains.
“As a general observation, there is less in the UK and European market on the mezzanine side; there is probably more in the US. Having done One Crown Place, it’s possible to see most of the opportunities in the near term in the UK will come in the development space.”
Shawn Kaufman, director of debt strategies, origination and syndication at TH Real Estate, worked with AustralianSuper on the One Crown Place deal. The mandate with AustralianSuper is, he says, “extremely flexible”, with the Australian giant able to approach European real estate debt on a somewhat opportunistic basis.
“If a deal makes sense, there is capital available to do it, but they are not under pressure to invest and will be very selective in the opportunities we pursue on behalf of AustralianSuper. For TH Real Estate, the mandate is 100 percent non-discretionary – TH Real Estate will source, structure and originate transactions for them, but AustralianSuper will be involved throughout the process, as was the case in the One Crown Place deal,” Kaufman says.
Although TH Real Estate has discretionary and non-discretionary debt mandates from in-house and external clients, including Korean pension funds, Kaufman says the opportunities that would fit AustralianSuper’s requirements are clear and distinct: “As part of our wider debt strategy, we look to establish a multitude of mandates with limited overlap in order for us to cover as much of the debt landscape as possible. What sets this mandate apart is the size of the deals the firm is interested in, which will generally range in size from £150 million to £300 million.”
Ward describes the arrangement with TH Real Estate as a “working relationship or partnership”, adding: “On One Crown Place we felt we were equal partners in terms of the workload. For transactability, we have a London office at King’s Cross and half a dozen full-time staff there. The London team on the ground were there doing due diligence alongside TH Real Estate.” One Crown Place is a direct deal, in AustralianSuper’s name, he adds. “We own it. We get a recommendation from TH Real Estate, but the buck stops with us.”
SEARCH FOR YIELD
Real estate clearly features on several Australian pension funds’ investment agendas. The IFM Investors and Industry Super Property Trust, which is owned by 27 super funds, will launch the International Property Funds Management platform this year, which will target diversified property investments, firstly looking at London, Paris, Berlin and Frankfurt.
“Australian superannuation funds have generally not invested in real estate debt,” says John Sears, national director for research at Cushman & Wakefield in Australia. “Their allocation to international fixed interest is reported at 8 percent of total funds. The majority of this would be government bonds. That said, with greater restriction on bank real estate lending in Australia, more non-bank financial institutions are looking at opportunities.”
In the One Crown Place deal, borrower MTD Group was advised by CBRE’s chairman of debt and structured finance for the UK, Steve Williamson. Houston-based Brian Stoffers, who leads CBRE’s debt advisory business, has spent time with Australia’s pension funds, recently visiting Melbourne.
“The Australian superannuation funds are searching for yield,” he explains. “It’s the same situation as with the South Korean insurers. They can get a 6 to 7 percent yield on mezzanine lending. They are seeing better risk-adjusted returns in debt, which have the benefit of an equity cushion in front of them.”
While real estate debt is not currently a major component of Australian funds’ portfolios, Stoffers argues it is a natural next step for them. “They have invested a lot in infrastructure, as they are long-term holders of assets. They invest conservatively, but they need yield.”
Among Australia’s large-scale superannuation funds, it is perhaps unsurprising AustralianSuper is the one exploring real estate debt markets across continents. The firm is noted as a leading presence in the market, driving strong returns for its pensioners; 12.44 percent on a balanced basis during 2017.
AustralianSuper also boasts a far larger investment team than most of its peers. Research by Chant West, which provides superannuation and pension industry research in Australia, shows AustralianSuper’s front office internal investment team has grown from 30 people in 2013 to 105 in 2018 – more than double the size of most of its competitors.
Mano Mohankumar, Sydney-based investment research manager at Chant West, describes AustralianSuper as a “consistently strong performer” among the country’s superannuation giants. “Not everyone can do what AustralianSuper does,” he remarks. “The fund has built up a powerful investment team and undertaken an internalisation process through which it has built in-house investment capabilities across most asset sectors but continues to also use external managers that it has high conviction in and that fit into its strategy.”
Along with the other major not-for-profit superannuation funds, AustralianSuper invests all profits back into its assets and members. These funds have shown a greater preparedness to enter new markets and sectors than their ‘for-profit’ retail fund counterparts, Mohankumar explains. “The driver is further diversification and additional sources of return in what promises to be a challenging environment with most asset sectors close to, or fully, valued.”
“In fact, the not-for-profit super funds have been investing meaningfully in unlisted and alternative assets for many years. Private equity, unlisted infrastructure and unlisted property alone account for 20 percent of a typical ‘balanced’ portfolio. Factoring in other alternative asset sectors they currently invest in, such as hedge fund-type strategies and alternative debt takes that figure up to about 30 percent,” he adds.
AustralianSuper’s Ward is clear his firm sees real estate debt as a significant future play. “In a top-tier location such as London, the opportunity to invest in scale through debt is there. We’ll play it a little more opportunistically, we don’t have a set amount of money to lend in a set amount of time.”
Pressed about the firm’s ambitions, however, Ward says: “We’re definitely looking to establish a portfolio of loans in Europe. We talk internally, expecting the fund to roughly double every five to six years, so when we do something it needs to be on a scale that is relevant at the broader fund level.”
“I’d like to be targeting the real assets debt portfolio of A$5 billion to A$6 billion over the next five to six years, so A$2 billion to A$3 billion loans in Europe, equating to £1 billion to £2 billion would be realistic.” That would include infrastructure, although Ward comments the bigger opportunity set is on the real estate side, with subordinate opportunities in infrastructure proving less common. European real estate debt remains largely untouched territory for the Australian super funds and although the One Crown Place deal can be read as a signal of intent, the Australian pension giants are yet to make their mark in the space. While AustralianSuper’s London office means it has feet on the ground in Europe, sources question whether the supers are likely to become large direct lenders in Europe, or rather rely on third-party managers to source and execute deals.
Whether they lend directly or with managers acting for them in Europe, CBRE’s Stoffers suggests Australia’s super funds could become significant players: “This is an asset allocation play that is not short-term. They need to diversify their investment stock, and bond and equities markets are all expensive,” he says.
Against the backdrop of low interest rates, Europe’s property sector remains a destination for global capital, and with debt increasingly viewed as a sensible late-cycle route into the sector, it is perhaps unsurprising to see pension funds from Australia enter the fray. The One Crown Place financing demonstrates that huge reserves of capital want access to European real estate in this elongated cycle, including investors from the opposite side of the globe.