PGIM turns more selective on Japan real estate as rates climb

[TOKYO] PGIM Real Estate, part of the asset management arm of Prudential Financial, is taking a more selective approach to acquisitions in Japan as rising interest rates drive up deal costs in the country. 

“We are at a point where it is becoming significantly more expensive” to acquire assets, David Fassbender, the firm’s head of Asia-Pacific real estate, said. PGIM is taking higher debt costs into consideration in underwriting, he added. “So we are more selective now than we were two years ago.”

The narrowing yield premium between Japanese government bonds and real estate is also raising the bar for investments, particularly in competitive sectors like office space, Fassbender added. “The historically wide yield spread has been eroded or disappeared entirely in some cases,” he noted. “That’s generally a sign that something needs to give.”

Japanese government bond yields have surged to the highest in three decades, reaching a level where they might begin to attract investors who have been looking to real estate and other assets for returns.

The Bank of Japan (BOJ) is widely expected to raise its policy rate to 1.25 per cent later this month as pressures from the Iran war and a weak yen fuel concerns about domestic inflation.

Japan’s booming real estate sector has come under pressure as the economy adjusts to higher borrowing costs following decades of near-zero rates. While homebuyers face steeper mortgage repayments, developers are grappling with higher material prices and construction labour shortages, triggering project delays and cancellations.

PGIM still sees opportunities in Japan and financing remains “readily available” in the country, according to Fassbender. It’s focusing more on high-growth sectors like data centres than offices and multifamily properties, which are less attractive as rates rise, he pointed out. 

Rapid rent increases for such properties have helped to offset higher borrowing costs over the past two years, but much of the rental growth has already played out, he said.

The firm is on track to invest more than US$2 billion in Asia-Pacific real estate in 2026, with at least half deployed in Japan, Fassbender said. It currently manages around US$3 billion of property assets in the country.

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PGIM recently acquired a four-story logistics facility in Saitama prefecture as part of its value-add strategy. Tight supply-demand conditions in Japan’s logistics industry, plus tailwinds from automation and physical artificial intelligence, make it an attractive target, Fassbender said.

The firm now deploys around 50 per cent of its capital in Japan on data centres, according to Fassbender. It has already invested in two sites around Tokyo and Osaka and is working on securing at least one more data centre property in the country, he noted. 

PGIM also holds hospitality assets in Japan, including a resort facility southwest of Tokyo. Fassbender is keeping an eye on the yen, saying its recent strengthening against the US dollar could have a negative impact on tourist arrivals if it continues. The Japanese currency is trading around its strongest level against the greenback since February.

Going forward, PGIM’s business in Japan largely hinges on the pace of BOJ rate hikes, according to Fassbender. So long as the central bank moves in line with market expectations and rent growth continues, the firm doesn’t foresee a major negative impact on returns, he said. 

“What would change the way we operate is if the rate hikes are either higher or they move up more quickly,” Fassbender added. BLOOMBERG