Real Estate Report: "Navigating the Nordic Comeback"

Arctic recently published its updated view on the Nordic Real Estate Sector. The report covers the sector from both a credit and equity perspective. Access the full report here: Nordic Real Estate Sector Report September 2024

Key messages in the report:

Sector

The anticipated crisis in the Nordic real estate market, predicted after the interest rate hikes in 2022/2023, did not materialize due to strong local support from equity, bond, and banking markets.

The bond and banking sectors are now competing to boost their real estate exposure, leading to favorable funding conditions for real estate companies

With improved access to capital, lower funding costs, and a more predictable interest rate path, transaction volumes are expected to rise from the low levels seen in 2022 and early 2024

Since May/June 2024, buyers have been eager to finalize transactions ahead of anticipated rate cuts this fall, which are expected to increase property valuations and make buying more expensive later in the year.

Although transaction figures year-to-date are relatively low, a significant increase in volumes is projected. Specifically, in Sweden, a 30-50% year-over-year rise in transaction volumes compared to 2023 is forecasted

Equity

Although long-term value in real estate is typically generated through a cash flow-oriented approach, it's time for investors to refocus on other aspects. 

Over the last two years, the emphasis has been on cash flow multiples, low net debt/EBITDA ratios, and high yield requirements, prioritizing financial stability over operational stability. 

With the interest rate path becoming more predictable and financing conditions improving, the transaction market is expected to pick up in the fall, which should validate book values.

Companies trading at large discounts to NAVs, especially those with high-quality, low-risk assets, are well-positioned to close this gap as market conditions improve.

Investors have been cautious due to distrust in book values, potential shareholder-dilutive measures, and concerns about financial distress. However, the latter two issues have largely played out.

As distrust in book values is addressed, a stronger correlation between share prices and NAVs is expected to re-emerge by fall 2024, with the average -11% gap anticipated to close by 2025.

Q2 2024 marked a positive trend shift in IFPM growth on a quarter-over-quarter basis, although it remained negative year-over-year, indicating that the sector may have reached its financial low point.

Over the next 12 months, growth is expected to return, with an average forecast of around 13% IFPM growth, though this may vary between companies.

Credit

The credit market is experiencing strong activity, with BBB issuers making a notable comeback.

In 2022 and 2023, both BBB and high-yield (HY) issuers were highly price-sensitive, resulting in low issuance volumes. However, BBB issuers have rebounded in 2024, issuing approximately SEK 30bn so far this year.

BBB issuance levels are 160bps tighter on average compared to May 2023, with the BBB reference curve at 121bps for a 3-year tenor.

While A-rated or higher issuers remained active in 2022/2023, the high-yield market is expected to gain momentum. With recent high-yield issuance by Genova, a surge in HY issuance is anticipated in the fall.

Falling interest rates have improved ICR expectations, increased property values (reducing LTV concerns), and generally mitigated the risk of rating downgrades.

The same ICR improvements that caused negative rating changes in the past two years are expected to enhance rating outlooks in 2025-2026 as rate cuts continue.