Noyack Capital Partners is an alternative investment platform for accredited and institutional investors with a focus on what its managing partner, CJ Follini, calls “mobility hubs and future-forward supply chain infrastructure.”
In a recently published analysis, Follini says the coronavirus pandemic has had a profound impact on the challenges and opportunities of investing in the industrial real estate market, particularly in parts of the global economy related to the movement, storage and delivery of consumer goods.
“The increase in all types of e-commerce has compressed five years of anticipated supply chain evolutions into 18 tumultuous months,” Follini says. “The activity has sent the industrial real estate market into overdrive, but it has also put pressure on an already tight industrial supply. Before the pandemic, most major industrial hubs were operating at record low vacancy rates, and now vacancy rates have compressed even further.”
In Follini’s view, the rapid adoption of e-commerce put a massive strain on existing infrastructure almost overnight. This has meant a flurry of demand, limited space to support it and, as a result, soaring rent growth in the industrial real estate sector. Alongside these factors, of course, have come opportunities for accredited and institutional investors to make strategic investments.
“Both investors and developers are hurrying to take advantage of the attractive fundamentals,” Follini says. “In our upcoming investments, we see big box, dry goods warehousing as the least attractive of all types of industrial—even though that’s what a lot of capital is chasing.”
The Next Phase of Infrastructure
Follini’s firm is focused on industrial facilities that serve what it calls “next-mile needs,” or properties equipped to evolve alongside changes in technology and culture. Examples of these changes include autonomous vehicles and buildings that support food service and grocery delivery.
“Cold storage is also at the top of the list of target assets,” Follini says. “Food and grocery delivery has increased demand for cold storage facilities, but there is a limited supply. Cold storage is a much more complex build and requires significant attention to specialized infrastructure such as climate-controlled environments and concrete that won’t freeze and deteriorate. This has built-in a generational undersupply for this asset class. It will take a lot more development and management effort to increase the supply and it won’t happen overnight.”
What is also clear is that the pandemic accelerated the online shopping trend and, because construction takes time, the relationship between supply and demand has become misaligned, Follini argues.
“The compression of the timing means the market pulled forward five years of increasing demand into one year,” he says. “What we don’t know is if additional demand is going to backfill future time periods. We don’t see a significant contraction in demand but, at some point, supply will reach equilibrium with that demand. If developers aren’t aware of this tipping point, we could end up with enormous oversupply within the next two years. The demand side is much greater for cold storage in the long run because you don’t have the same amount of supply and the easy money coming to the market won’t chase these complicated builds.”
The Interplay of Technology
In a related analysis published by PGIM, the global investment management business of Prudential Financial, the firm concludes that the most unique businesses with the strongest durable growth profiles today exist in the technology and consumer discretionary sectors.
“As technology’s importance in our lives continues to grow, we believe we’re in the early innings for secular trends shaping our digital future,” the PGIM experts suggest.
PGIM argues that, as companies big and small continue to seek ways to establish and enhance their online capabilities in an increasingly digital world, direct-to-consumer (DTC) business models will grow ever more important.
“DTC companies reap the benefits of huge pricing power, better inventory management and end-to-end control of their distribution, which translates into better earnings,” the analysis states. “Future new companies will start online first, giving this trend a long runway for growth across industries such as e-commerce, connected fitness, online dating, streaming, electric vehicles and mobility, to name a few.”
Related to this trend, PGIM argues, will be a broad focus on leveraging cloud-based internet applications.
“With enterprise migration to the cloud still in the early days, this powerful but nascent trend will expand across all industries and companies,” PGIM says. “Demand will increase for cloud-based applications, especially in commonly needed areas such as unified communications, cybersecurity and infrastructure management. Soaring e-commerce activity makes platforms that can help grease the skids of commerce by facilitating seamless online transactions more vital. Digital payments and e-commerce enablement applications are two prime beneficiaries that are likely to see impressive growth trajectories for years to come, given low e-commerce penetration rates in many parts of the world.”
PGIM says the companies with the best technologies and execution in their respective spaces will be the likely winners.
Physical Assets and Inflation
Speaking during a recent panel event hosted by the Active Investment Company Alliance (AICA), Gaal Surugeon, portfolio manager at Brookfield Asset Management’s Public Securities Group, emphasized that investing in physical assets such as infrastructure and real estate provides inflation protection with stabilized yield potential and long-term growth prospects tied to the economic cycle. He adds that the short- and mid-term prospects for real assets are also attractive now. As the global economy continues to bounce back from COVID-19-driven shutdowns, there is a clear need for investment in infrastructure and to fund “upgrades to the underpinnings of society like airports, toll roads and more,” he said.
According to Surugeon, the sectors within real estate that appear most attractive both on fundamentals and valuation are residential, office and hospitality—or “those that were effectively in the crosshairs of the global pandemic.
“Within the infrastructure sector, transports are most tied to that reopening thematic, and we do believe that airports and toll roads, for example, have very strong pockets of opportunity,” he continued. “But they still remain very regionally dependent and that’s largely because this global reopening, especially with mobility, has been fairly uneven.”
Looking ahead, like so many others, Surugeon will be keeping a close eye on inflation.
“There is likely going to be a shorter-term impact on things such as commodity price inflation, and those largely may abate as supply chain disruptions ease,” Surugeon said. “But there’s also the potential that we may find more areas of structural inflation, some that are longer term in nature. What comes to mind is wage inflation. We’ve seen a tremendous amount of pressure on wage growth, largely tied to the slack in the unemployment market, and that may prove to be more structural in nature.”
At the end of the day, Surugeon said, infrastructure tends to benefit from this type of inflation.
“We predict roughly 70% of the listed infrastructure space has some type of inflation passthrough or inflation escalator built into either the underlying contracts or the regulatory nature of certain sectors, and that’s where we believe the real asset space is most likely poised to benefit,” he concluded.