Research article

Data centre: a growing asset class

Despite high barriers to enter the market, data centre investment is evolving, slowly allowing room for private capital investors

Whilst Covid-19 has brought data centres in the spotlight this year, investors interest for the sector has been growing over the past five years. In the last Emerging Trends in Real Estate Europe survey released at the end of last year, data centres were in the top 10 sectors to invest in, following logistics facilities and residential-based assets classes. The fundamentals of the sectors are strong and solid with a flourishing demand set to grow dramatically in the next five years. As data centre migration is a highly complex process, tenants usually occupy the premise for a long period, generally for approximately 10+ years. Hence, the sector offers a long-term income stream and security.

Nevertheless, high barriers to enter the market are restraining private capital’s exposure in the sector. Firstly, particularly high infrastructure costs mean that data centres are expensive to build. Secondly, for non-specialists, they are also complex to manage and require scale to achieve profitability. Thirdly, due to the speed of technological development, obsolescence is another concern involving expensive maintenance and upgrading costs.

As a result, most of the existing data centre stock is owner-occupied, predominantly by a few specialised public REITs, which have been dominating the European market. This includes notably the US-based Digital Realty and Equinix REITs and the Asian Keppel DC REIT. The strong concentration of market players has had a catalyst impact on the market liquidity and transparency, dampening the opening of the market to private capital.

Yet over the past three years, non-specialist private institutions have slowly entered the data centre investment market, including general REITs (Schroder European REIT), investment managers (Catella APAM), institutional investors (AXA) and more recently sovereign wealth funds (GIC, PFA) and infrastructure funds (Brookfield Infrastructure Partners, EQT Infrastructure), often through joint venture partnerships or entity deals.

2020 will mark a clear step towards improved liquidity for the data centre asset class. Investment activity within the sector, which was initially mainly fuelled by new development activity and M&A is evolving towards sale and leaseback options. This will unlock the market by providing investors with data centre acquisition opportunities. This month Digital Realty revealed their plan to sell a European portfolio of 11 data centres of an approximate €600m value. In January, they sold a 10-data centre portfolio based in the US to Mapletree for $557m.

As already mentioned in the previous section, this year Digital Realty also acquired 53 European data centres through the M&A of Interxion. Other significant transaction includes the acquisition by the Danish pension fund PFA of 20% of DATA4 (AXA). In August, EQT Infrastructure fund has announced the acquisition of EdgeConneX, a leading global edge data centre provider, a transaction which is expected to close in the final quarter of the year.

Yields are attractive compared to other asset types, reflecting the liquidity premium. Prime core European yields range between 5% and 7% depending on the quality of the asset and on location. As the market is rapidly maturing and in the face of pent-up demand, we expect strong yields compression in the next 1–2 years. According to The FTSE Nareit, the data centre sector delivered a total return of 32.5% year-to-date through the end of August.

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