The ECB could start cutting interest rates from June and there are questions about what the consequences of this monetary policy decision could be on the economy. Second François Rimeu, Senior Strategist of La Française AM, iThe real estate sector could be among the most affected by the ECB’s decision to interrupt its restrictive monetary policy. According to the asset manager, here are the real estate segments that will benefit most from the ECB rate cut.
When will the ECB cut interest rates?
Since the beginning of the year we have seen a repricing of the short end of the yield curve. Markets are anxiously awaiting communications from major central banks on the timing of the first rate cuts, which are expected to begin in June. Said this, while June might be a good time, nothing is definitive yet.
What will determine the ECB rate cut?
Central banks continue to argue that their decisions will depend on economic data and that they still need to be reassured about the future of inflation in general and wage inflation in particular. For the ECB, i European data will be fundamental, but they won’t be the only ones. US data will also be equally important. This lack of confidence on the part of central banks is reflected in the volatility of rates, which are still very high although falling, and is also reflected in investor expectations. For some types of investors, including asset managers, it is therefore important to see the actual start of the rate cut cycle to be reassured about the direction of future investments and asset allocations.
Which real estate sectors will benefit most from the rate cut?
For what concern real estate market, we believe that the listed European real estate could benefit from upcoming cuts. With a decline of 37% in the period between January 5, 2022 and March 19, 2024, while the index (Stoxx 600) advanced marginally, the European listed real estate sector is probably the one that has suffered the most from the rise in bond yields. It is crucial for the sector to see the beginning of normalization of interest rates and a decline in long-term rates. The terminal rate is currently around 2.60% (EUR 5y5y swap rate) in the Eurozone. A return to 1.5-2% (what we consider “neutral” in the Eurozone) would be necessary in the medium term for the sector to outperform the market. As asset managers, we believe this is possible, even if the movements are not linear.
Which other sectors could benefit from the next ECB rate cut?
The segment of utilities, which, again, has seen notable underperformance since the start of 2022, down 10% over the same period as above; a logical decline for an industry with constant revenues. Beyond the disruptions related to the war between Russia and Ukraine, the sector could benefit from the decline in future rates if the latter is the result of a decrease in the risk of inflation.
The sector food and beverage it was affected by the increase in interest rates, weather events and the war in Ukraine. The underperformance was significant, with a decline of 18% over the same period. Given the sector’s weak growth and historically high and stable dividends, this sector will likely benefit from a decline in long-term rates. However, rising rates are not the only factor behind its underperformance (e.g. rising gas and fertilizer prices). The cuts made from October to December 2023, for example, failed to raise market optimism, on the contrary.
With regard to tech & healthcare, these sectors have not been affected by the increase in rates and paradoxically are even benefiting from it! Often represented as sectors long duration, the technology and healthcare sectors have benefited from the Covid crisis and the artificial intelligence boom, attracting investments and generating profits. Valuations are perhaps a little higher than elsewhere, but we see no reason why these companies cannot benefit from a future rate cut.
Like the bond markets will be affected will depend on why interest rates fall. If rates fall because inflation is falling, the broader bond market should benefit from policy normalization. However, if rates fall because the economy weakens significantly, we are likely to see a widening of spreads (the difference between the interest rates on a bond and those on a risk-free bond), which it will obviously be negative for corporate bonds and especially for high-yield ones.
Finally, the normalization of monetary policy will likely be positive for raw material thanks to its positive impact on the economy. This will be even more true if the beginning of the economic recovery, which appears to be underway in the eurozone, proves to be sustainable, as we believe.
Tags: ECB rate cut June real estate sectors benefit idealistanews
