ANALYSIS: Are warehousing investments becoming overvalued?

That’s the question asked by some logistics Reit investors as rising demand for warehouse space over the past year has led to rising rents – and valuations.

Rising demand for home deliveries especially during the pandemic – a trend that had been building long before Covid hit – means that the demand for warehousing space has been rapidly increasing.

Logistics assets consequently are reaching new highs in value thanks to consistently growing rents and a recent Investors Chronicle (IC) article asks, has this now gone too far?

Shares in warehouse owners, property company landlords who have benefited from these structural changes in the market, have reacted positively from the market sentiment, so much so that some are now looking overvalued.

As always happens when an investment trend is clearly identified, investor demand increases, and over the past 12 months some of these investments now trade at premiums to their net asset values (NAV).

Real estate investors have been clamouring for more exposure to the logistics sector as retail and leisure has seen a rapid decline. Those investors seeking to capitalise on the rapid growth in ecommerce and a renewed drive by companies seeking to strengthen their UK based supply chains post-pandemic, and Brexit, are willing to pay higher prices for these assets.

New money is also being ploughed into new logistics sites and distribution centres and investment companies and property Reits see a long-term future in the sector.

Record year

According to the Real Estate Services Group, warehouse development is heading for a record year in 2021. The amount of new space under construction is more than double the amount completed in 2020, with most of that space pre-let to retailers and distribution companies.

Johnny Hawkins, UK capital markets partner at Knight Frank told the IC: “There’s a wall of capital trying to get in and there’s not that many that really want to sell. Investors have been attracted to secure income streams as demand for ecommerce has accelerated demand for warehouse distribution sites,” he said.

Clearly, investors are expecting asset values in this sector to go on increasing. Property specialist Reits such as Segro (SGRO) and LondonMetric (LMP) are now trading at premiums to both the last reported and forecast net asset values (NAVs).

Chief executive at Urban Logistics (SHED), Richard Moffitt, said the demand for the faster delivery of products has led to more companies widening their “distribution footprint”. “Everyone gets excited about Amazon, but the reality is what you see now is a structural shift in the way we now procure our goods,” he told the IC.

Real clamour

Moffit says the Reit has experienced “a real clamour” among tenants to extend leases over the past six months, as these companies seek to make their supply chains more sophisticated following the pandemic and uncertainty of Brexit. “They can see that if rents are going to be on the rise, they may as well lock in now to a longer lease.”

Increasing competition for this type of space is really benefiting landlords as it means that tenants are anxious to secure leases and are willing to settle rent reviews in advance of the due dates. Around 80 per cent of rent reviews have been settled in advance of the lease date, Mr Moffit says. “Sometimes a tenant can see that the evidence is getting stronger and they’re not going to move anywhere.”

In March 2021 prime distribution space was the only property type where asset values were rising, driving down investment yields to below where they were a year earlier, that’s according to Knight Frank data. The average prime logistics investment yields are new below those available on prime offices in the City of London.

As the structural decline in retail rents continues to accelerate, and the future demand for office space post-pandemic is still unclear, it becomes harder to find reliable sources of rental income beyond logistics. There is good reason to be bullish on the sector but there is also the danger that values get ahead of themselves.

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