TACO HALO PACE

By Giovanni Curatolo, EPRA Research & Index Analyst

HALO (Heavy Assets, Low Obsolescence) is, without a doubt, one of the most mentioned acronyms in financial markets today. In times when TACO doesn’t work anymore (because things actually do happen), investors seek assets, or companies that own assets, that are hard and durable. Another perspective was offered by Gravis’ Head of Real Estate Securities, Matt Norris. This time the acronym is PACE (Physical Assets, Compounding Earners), which captures, in his words, how “most resilient tangible capital is not merely owned but run as a compounding business”; that is, the ability to generate reliable and growing income that compounds through time.

These “new” acronyms come at a time in which geopolitical instability walks hand in hand with stretched valuations, an increasingly concentrated equity market (both regionally and by sector), and an uncertain credit environment.

Although “this time is different”, maybe because equity markets are still sustained by earnings growth and not extreme multiple expansion (unlike the .com bubble), or perhaps because we simply like to think it is, it is worth zooming out for a moment and looking at what happened in the early 2000s. Then, much like today, the S&P 500 was highly concentrated in tech/software stocks, equity markets were at records high, and investors’ expectations were that the new technology would have changed the world forever (sounds familiar?).

In the five years following the .com bubble peak property stocks globally provided investors with positive and strong annualized total returns of 9.4% with the US stock market declining at an 8.8% per annum^[1]. During the same period, European listed property companies delivered an annualized total return of ca. 15.8%, outperforming broader European equity stocks^[2] which delivered a negative annualized total return of 3.7%.

When stakes are as high as they are today, companies backed by physical assets that generate recurring rental income (PACE), and that distribute a significant share of their earnings to shareholders as dividends, may help investors navigate uncertain times while diversifying away some of the risks associated with roughly 60%^[3] of global equity markets being concentrated in a single region (and arguably in a single sector).

Looking at the correlation between the S&P 500 and the FEN Developed Europe Index around the .com bubble, which again might or might not be comparable to what we are experiencing now, the relationship was and remained low before, during, and after the crash (chart on the left).

Today, as the chart on the right highlights, correlation, measured using a 36-month rolling window, between European property stocks and the American stock market is at its lowest level since the early 1990s. In this environment, the FTSE EPRA Nareit Developed Europe Index is up 4.6% year-to-date^[4], outperforming European equities by more than 3 percentage points, and US equities by almost 5^[5].

Now, maybe this time it is different, or maybe it is not. History suggests that when software-heavy stock markets tumbled, this was accompanied by a rotation towards HALO (or HALO companies). Within HALO, companies that invest in income-producing assets (PACE) demonstrate how the ability to generate predictable and recurring cash flows can help investors navigate uncertain equity markets.