2q market update...real estate market update: four quadrants summary (june 8 – june 26) real...

Investment advice and consulting services provided by Aon Hewitt Investment Consulting, Inc., an Aon Company.

2Q Market UpdateNebraska Investment CouncilJuly 9, 2020

Proprietary & Confidential Investment advice and consulting services provided by Aon Hewitt Investment Consulting, Inc., an Aon Company. 2

'10 '11 '12 '13 '14 '15 '16 '17 '18 '190

10

20

30

40

50

60

70

80

90

36.09

Source: FactSet

VIX

CBOE Market Volatility Index

COVID-19 -- Market Reactions (Data as of 6/12/2020)

Jan Feb Mar Apr May65

70

75

80

85

90

95

100

105

110

-8%-6%

Source: FactSet

Equity Market YTDPrice (Indexed to 100)

MSCI World IndexS&P 500

'15 '16 '17 '18 '190

0.5

1

1.5

2

2.5

3

3.5

4

0.70

1.45

Source: FactSet

US Yields

US 10Y TreasuryUS 30Y Treasury

1M1Y2Y3Y 5Y 7Y 10Y 30Y0

0.5

1

1.5

2

2.5

3

Source: FactSet

United States Treasury Yield Curve

12-Jun-202009-Mar-202005-Mar-202031-Dec-2019

Equities are nearly back to start of year levels

Collapse in bond yields across the yield curve, but yields are off their lows.

VIX has eased from spiking

Past performance is no guarantee of future results. Unmanaged index returns assume reinvestment of any and all distributions and do not reflect any feesor expenses. Investors cannot directly invest in an index. Please see Appendix for index definitions and other disclosures.


COVID-19 -- Market Reactions (Data as of 6/12/2020) (Cont’d)

'10 '11 '12 '13 '14 '15 '16 '17 '18 '190

2

4

6

8

10

12

1.192.06

6.11

Source: Factset

Credit Spreads

Int. CreditLong CreditHigh Yield

'10 '11 '12 '13 '14 '15 '16 '17 '18 '190

2

4

6

8

10

12

14

1.583.24

6.77

Source: Factset

Credit Yields

Int. CreditLong CreditHigh Yield

'15 '16 '17 '18 '19-60

-40

-20

0

20

40

60

80

100

36.24

Source: FactSet

WTI Oil Spot Price

Crude Oil WTI /Global Spot NYMEX ($/bbl)'15 '16 '17 '18 '19

86

88

90

92

94

96

98

100

102

104

97.32

Source: FactSet

US Dollar Index

United States Dollar Index

Credit spreads have come in but are still higher than average.

The dollar has been volatile


Oil has rebounded, but prices remain depressed


-40

-20

0

20

Feb Mar Apr May JunDate

% D

eclin

e fro

m J

an 1

3 20

20 R

outi

region

Canada

Germany

United States

An Economic CatastropheQ1 GDP figures are indicating a sharp economic contraction, with worse expected in Q2

-8.0%

-6.0%

-4.0%

-2.0%

0.0%

2.0%

GD

P G

row

th

(QoQ

Una

nnua

lized

)

US Eurozone Consensus Forecast

Source: Bloomberg

Source: Apple. 7-day moving average shown.

Apple data point to transport activity picking back up as lockdowns ease

The initial “Great Lockdown” period was effective in containing the spread of COVID-19, but at the expense of what’s likely to be the worst recession in generations

The scale of the economic damage is apparent The unemployment rate is 14.7% in the US,

the highest since The Great Depression. Eurozone GDP growth in Q1 was the worst on

record, with France recording its worst growth figure since 1945

The length and severity of the recession will depend on how quickly things can get back to normal Germany, parts of the US, and a few other

countries have started to relax some of their lockdown measures

Getting back to normal will likely take a long time. Non-essential trips may continue to be avoided even if official lockdown measures are ended

A severe “second wave” outbreak is a risk, and if the virus starts escalating again another lockdown may be needed

Sharp falls in trips outside as the lockdown started, but are now rebounding


Central Banks to the rescue? Not in a public health crisis

Past performance is no guarantee of future results.

-1

-0.5

0

0.5

1

1.5

2

US UK Japan ECB Canada

Central Bank Policy Rates Through 2020

1/1/20

4/22/2020

12/31/20

Source: Aon, Bloomberg OIS Pricing

A second emergency rate cut by the Fed on 3/15/2020 takes us back to 0 to 25bps range

Where possible, central banks around the world have eased policy, but with rates being low there is a limit. Central Banks are also increasing liquidity operations as funding markets come under pressure. On March 23, the Fed launched unlimited QE and expanded QE into bond markets where it has not been deployed before.

UK cut rates by 50bps on 3/10/2020, and on 3/18/2020 cut rates to 0.1% the lowest ever in the UK.

Canada has cut rate by 50bps on 3/4/2020, 50bps on 3/13/2020, and 50bps on 3/27/2020.

0

250

500

750

1,000

US UK Japan Eurozone

US

$bn

New Quantitative Easing MeasuresGovernment Bonds MBS Flexible

“QE Infinity”: purchases of unlimited amount of treasuries, MBS, corporate bonds and student loans

The BoJ is extending purchases of everything from government and corporate bonds to equities ETFs

Source: Aon


Fiscal Packages Are Large Across the G20

USA:

State of Emergency Declared releasing $50bn to States to deal with virus

Payment of federal taxes deferred by 90 days, freeing up an estimated $300bn for 90 days.

Senate passes the Houses stimulus package which provides paid sick leave to workers effected by COVID-19, but there are some limits.

A $2 trillion stimulus package approved in the US. Phase 4 is being discussed.

A further $400 billion has been approved and signed into law to replenish funds for small businesses

Source: IMF


0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

S&P 500 MSCI ACWorld

US CreditSpread

Int. CreditSpread

Lng.CreditSpread

High yieldSpread

US CreditYield

Int. CreditYield

Lng.CreditYield

High yieldYield

US 10YYield

US 30YYield

20 Ye

ar P

erce

ntile

Rank

of V

alua

tion

6/12/2020

12/31/2019

3/31/2020

Market valuations have reacted to a volatile environment

Expensive

Cheap

Source: Aon, FactsetNotes: Valuations used: Equity markets = Next Twelve Month PE Ratio, Credit Spread = Option Adjusted Spread, Credit Yield = Yield To Worst, Treasury Yield = Yield To Maturity



Available Private Equity Capital

Source: Preqin

Fundraising At peak for last three years $787.2 billion was raised in 2019 by 1,725 funds Still loads of capital on the sidelines

COVID Impact: Funds in market at outbreak continued to close according to

plan, especially with existing investors. Solid funds continued to close, the best being oversubscribed Expect a slowdown after these, especially with new investors.

Inability to hold meetings in person, feel comfortable with diligence, etc.

Investors Some Endowments and Foundations facing liquidity issues Some pensions backing away due to liquidity or allocation

concerns May create ability to access better performing managers May create some secondary opportunities

Dry Powder Highest level ever: 3.96x 2019 deal volume Plenty of capital to support deals

- Equity Infusions- Debt buy backs- Add on acquisitions

Deal VolumeNew Deals Buyout deal volume and value fell in 2019 and in 1Q 2020 April 2020 volume at ~25% of 1q 2020 volume and 40% of Value Exits declining but right at long term average levels since 2006 as

of YE 2019.

COVID Impact: Some deals in process were abandoned Stalled new deals

- Valuation issues- Financing Issues- Company prospects changing- Need to meet management and complete diligence- 2008 deal value fell by 70% and another 44% in 2009 - Smaller deals: 2008 deal volume fell only 17% and another

29% in 2009 Secondary deals will pause Deal Creation – takes time

- Distressed dealso Turnaroundso Add on acquisitionso Distressed debt

- However, sometimes a small window to really take advantage. If one misses the critical time period, could miss the opportunity.

Exits will slow significantly- No reason to sell into this market unless absolutely have to.- 2008 exit value fell by 58% and another 23% in 2009- 2008 exit volume fell by 31% and another 13% in 2009It all depends on how long the malaise lasts

Private Equity Market Update:


Private Equity Market Update:COVID Impact on Valuations and Performance

Net Asset Values Will Fall Slower than public markets

In 1Q and 2Q maybe beyond

Buyout faster than venture

Impacted by public valuations

In general public equity prices have inexplicably held up, while company EBITDA has declined

Aon estimates 7% to 15% in 1Q

Looking Back at Performance over GFC

In terms of quartiles, funds above the median outperform the public index

Vintage years during and after a downturn can be better returning vintages

Mature portfolios will likely move from generating cash to requiring cash

Source: Burgiss, Bloomberg & Aon

Distributions Will Decrease Materially Limited Exits GP’s holding onto cash

Capital Calls are Expected to Decline Fewer new deals in the short term Continued calls for fees and expenses Some add-on acquisitions Troubled companies: depends on how long this lasts. Post 2Q will be key in

terms of company liquidity and revenue outlook potential Fund Credit Lines will ease capital call burden for LPs and will not be

impacted materiallyMature portfolios will likely move from


Real Estate Market Update: Four Quadrants Summary (June 8 – June 26)

Real Estate Private Equity• Many open-end fund managers are suspending or limiting redemptions to

preserve cash and to protect assets of the funds. Redemption queues continue to elevate now standing at roughly $19.8 billion as of 2Q20, substantially higher than $14 billion as of 1Q20. This large increase in redemption requests can be attributed to LPs reacting tactically to avoid write-downs or needing capital after the downturn in equities at the onset of COVID-19 in March.

• The First Quarter returns for Core open-end funds were positive overall, with only a -0.04% decline in value in the NFI-ODCE Index. Second Quarter preliminary expectations for OE fund values are fairly benign; down 2-3%. A lack of transaction activity combined with an expectation deferred rent will be collected helps to underpin real estate valuations in the near-term.

• At this point close to all closed-end funds have reported for 1Q20, all indications point to an average decrease in value of 7.0%. There is a wide disparity in reported results, with the majority adjusting values negatively (approximately one in four with double digit write-downs).

• While some sectors are feeling more effects than others, rent collections have come in above expectations for office, apartment, and industrial.

Real Estate Public Equity• The REIT market like the stock market is caught up in a see-saw battle in June

due to volatility caused by positive news of the economy reopening on one hand and the fear of managing the coronavirus pandemic on the other hand.

• For the week of June 15, the FTSE Nareit All Equity REITs index posted negative returns, underperforming the S&P 500 by 300 basis points. The week had significantly divergent returns by sector, demonstrated bellow, due to different expected responses to a second wave of COVID.

• Sectors with the highest sensitivity to social distancing measures such as regional malls, lodging/hotels and shopping centers suffered the most. The lodging/hotels sector lost 11% of its market cap.

• On the other hand, data centers, timber, single family and infrastructure delivered positive returns with data centers and timber taking the lead.

• A report by Green Street Advisors indicated that although the REIT market has been affected negatively during the past few months, the ultimate impact on property value in the long-term should be limited to short-term disruptions.

Real Estate Private Debt• Both traditional and private lending markets remain largely dormant in many

respects due to limited transaction activity and uncertain costs of capital.

• Small and regional banks continue to be active lenders with limited loan size, while larger banks still have reduced limited activity. Both of these groups are reserving capital for their strongest relationships.

• Spreads over LIBOR for private loan origination are still 100bps higher than pre-COVID levels, indicating an attractive market to lend.

• Anecdotally, some managers expect capital from private real estate lenders to re-enter the market slowly. During the GFC private lenders were able to capitalize on the opportunity set as they utilized built-up dry powder.

Real Estate Public Debt• Spreads have seen a broad based recovery across the capital stack, with BBB and BB

tranches tightening by 450 and 250 bps respectively, as compared to May 18, 2020.

• Anecdotally, investors continue to focus on the lower end of the capital stack as it remains one of the last pockets of “high yield” available within fixed income.

• AAA CMBS spreads are back to pre-COVID numbers, due in large part to the expansion of TALF 2.0, which now covers legacy non-agency CMBS AAA.

• Due to the stable nature of multifamily and industrial properties, new issuances of conduit CMBS are largely comprised of loans collateralized by these property types.

• While K Series CMBS spreads have compressed, yields remain elevated, providing a strong opportunity set within the market.

• As states push on with their reopening phases, delinquency rates continue to rise with early 30 day CMBS delinquency data for June reaching 10.7%. Retail and hotel continue to be the hardest hit sectors.

*Source: Green Street Advisors, NAREIT, NCREIF, Townsend // Townsend’s views are as of this date of this publication and may be changed or modified at any time without further notice.


Real Estate Market Update: Property Type Summary (June 8 – June 26)

Property Type

Market Sentiment Commentary

MultifamilyApartments remain an attractive and defensively positioned property sector long-term. Eviction protection and government stimulus should continue to underpin the sector during the COVID-19 pandemic. The secular trend toward suburban garden-style multifamily should continue as tenants reconsider living arrangements while working from home.

Office

US office fundamentals have been weak, with vacancies increasing in light of the success of working from home during the pandemic. Office demand has also been previously inhibited by the decreasing amount of space per work, which has decreased on average approximately 75 square feet per worker between 2010 and 2018. However, with new social distancing measures, there is a potential upswing in the amount of office space square footage per worker which will be needed, which may increase demand in total square footage.

IndustrialTransactions of industrial assets have slowly restarted, and thus far seem to be trading at pre-COVID-19 pandemic values. Many industry experts are expecting to see a slight decrease in valuations for the sector in Q2, but no more than -0.5%.

RetailIncreased online retail demand has been a headwind for brick-and-mortar retail and a tailwind for the industrial sector. Many retail property managers have been aggressive in requesting brokers’ opinion of value (BOVs), which has led to an expectation that values may drop anywhere in the -4% to -6% range during the second quarter.

HotelAfter having bottomed in April, the sector continues to see slow improvement in the weekly hotel data. For the week ended June 6, total US RevPAR fell -65.0% year over year. Occupancy and ADR have seen modest improvements as hotels have benefited from “weekend trippers”.

Other

Senior Housing: Near term occupancy is expected to drop, however higher end senior housing is expected to hold up in the long run. Rent collection continues to hold up due to the fact its tenants often carry a low debt burden, collect social security, and collect income from other retirement investments.Student Housing: Select institutions, such as University of Maryland and American University, have elected to reduce on-campus occupancy in half in order to prevent a spread of the virus. If this trend persists, an attractive opportunity presents itself for off-campus housing.

*Source: Green Street Advisors, NCREIF, Evercore, Townsend, AltusTownsend’s views are as of this date of this publication and may be changed or modified at any time without further notice


1Q 2020 2Q 2020Year-to-Date

As of 6/30/20US Stocks DJ U.S. Total Stock Market Index

-21.0% 22.1% -3.5%

Global StocksMSCI All Country World IMI

-22.4 19.8 -7.1

Non-US StocksMSCI All Country World ex-US IMI

-24.1 17.0 -11.2

Core Plus BondsBB Universal Bond Index

1.3 3.8 5.2

Real EstateNCREIF ODCE Index

0.8 -- --

Private EquityDJ U.S. TSM Index + 300 bps

-20.3 22.8% -2.0%

NPERS** DB/CBB Policy Benchmark -14.0% ≈14%* ≈-2%*Health Care Endowment Policy Bench. -15.1 ≈15* ≈-2*50/50 Endowment Policy Benchmark -9.6 ≈11* ≈1*

Major Capital Markets Performance & Estimates for DB Plan + Endowment Policy Benchmark Results through June 30, 2020

*Estimated – NCREIF 2Q Returns are not yet available and are assumed to be 0%**OSERS 2Q Estimate is not included as OSERS’ interim policy weights are updated monthly to reflect actual weights; 2Q actualweights are not yet available


Current Market Views

Markets bounced back sharply, boosted by signs of a “flatter” virus trajectory across major developed economies and global governments and central banks providing extraordinary measures of support.

Sustainable gains look much more difficult, with valuations moving higher and the economic consequence of the pandemic lockdown still uncertain.

Bond yields remain at extremely low levels, as global QE programs and policy interest rates hold yield curves down. This is unlikely to change over the medium-term.


Legal Disclosures and Disclaimers

Investment advice and consulting services provided by Aon Investments USA Inc. The information contained herein is given as of the date hereof and does not purport to give information as of any other date. The delivery at any time shall not, under any circumstances, create any implication that there has been a change in the information set forth herein since the date hereof or any obligation to update or provide amendments hereto.

This document is not intended to provide, and shall not be relied upon for, accounting, legal or tax advice. Any accounting, legal, or taxation position described in this presentation is a general statement and shall only be used as a guide. It does not constitute accounting, legal, and tax advice and is based on Aon Investments’ understanding of current laws and interpretation.

Aon Investments disclaims any legal liability to any person or organization for loss or damage caused by or resulting from any reliance placed on that content. Aon Investments reserves all rights to the content of this document. No part of this document may be reproduced, stored, or transmitted by any means without the express written consent of Aon Investments.

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2q market update...real estate market update: four quadrants summary (june 8 – june 26) real...

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