The Market Recovers – Or has It Ever Really Faltered?

Real estate prices rose in Japan in 2022, and are expected to continue and rise in 2023. Of course, real estate prices only rise….until they don’t – but in the case of Japan, a number of factors, including inbound demand, ultra-low interest rates, higher costs of labor and construction, all but ensure that 2023 will be more of the same, as COVID restrictions are further weakened. While the ultra-low interest rates may change, the other factors seem bound to continue into the coming year, as we hopefully move into the post-pandemic era and the new enshrined normal.

As mentioned in our previous annual summary piece, property prices in most industry segments were not affected very negatively at all, even while Japan’s Covid-19 restrictions effectively shut its border to new arrivals. For 2023, as we are finally leaving such a state of affairs behind, Japan’s real estate seems poised to rise even higher – depending on the sector, of course.

The Return of Tourism

While masks may still be omnipresent in Japan, unlike in various other countries (for better or worse), COVID restrictions on new arrivals including tourists have eased, with some of the restrictive policies on tourists thankfully coming to an end.   Tourists are coming back in great numbers – albeit not yet anywhere 2019 levels. The number of foreigners entering Japan has surged nearly 12-fold, to slightly over 4 million in 2022, compared with 353,000 in 2021. That is far below the record 31 million in 2019, but the country is certainly looking to pick up where it left off before 2020, taking measures to increase tourism as one pillar of its strategy for economic growth.

According to Nikkei’s Real Estate Market Report, average December room prices in 2022 were 17,127 yen – 18.4% higher than the average in December 2019 – so the government’s subsidies for domestic travelers and the return of foreign travelers are certainly making themselves felt. Worker shortage and higher energy prices have also added to the upward pressure on prices.

In terms of investment opportunities linked to the return of tourism, many hotels offer good scope, with many in need of refinancing or repositioning. The rebound of tourism is providing much-needed cash flow to the hospitality sector (not to mention the difficulty of booking hotel rooms in certain areas of large cities, but this is also driven by domestic travel to a large extent). However, debt levels remain, which should lead to hotels in regional areas trading at discounted levels. Hotel operators, most of whom have been through a horrendously difficult three years, with continued debts, may want to sell rather than wait for tourism and business travel to return to pre-pandemic levels. Some investors are actively looking to convert hotels into residences, as many have done successfully in the last few years.

Large hotel groups with more room to invest than struggling small-medium size operators are looking outside of Japan’s bigger cities. Major international hotel groups such as Hilton and Marriott are expanding outside major Japanese cities, as many foreign travelers who already have experience seeing Kyoto and Tokyo would now like to see what lies beyond them. Hilton Worldwide plans to open its first hotel in the Hokuriku region later this year under its “Doubletree” brand, in Toyama City. The company also has plans to bring some of its mid-price hotels to Japan in other capital cities of prefectures in various regions. Many of the major foreign hotel companies do not own property or buildings of their own, preferring to either obtain the rights to operate a hotel at a property from its owner, or use the franchise method in which the brand’s name and management methods are implemented. These strategies may enable these groups to take over operations of smaller hotel operators hit hard in the pandemic, mentioned above.

The JTB Travel Agency has set up tours for what it has billed the ‘rainbow route’, which goes from Tokyo to Kansai via rural Hokuriku, as opposed to the ‘golden route’ that takes visitors directly from Tokyo to Kyoto and Osaka via the bullet train. These tours will allow visitors to have farming experiences and accommodation in old-fashioned houses, as opposed to the usual “Airport – City – Hotel – Onsen – Rinse/Repeat” model. Boosting regional tourism will be crucial to Japan’s goal of increasing annual spending by international visitors to 5 trillion yen, which had earlier reached 4.37 trillion yen before the pandemic. However, the 10 top prefectures of Japan’s 47 accounted for approximately 90% of that figure.

The Macro Picture and the BOJ’s Next Moves

While Japan’s cultural attractions and eased COVID restrictions will obviously not fail to bring tourists, it is the country’s ultra-low interest rates that will bring investment into its real estate markets, in stark contrast with most of the Asia Pacific region.

The Bank of Japan’s continuing Yield Curve Control policy, which caps the yield of the 10-year Japanese Government Bond at just 0.25 bps, is what keeps bank borrowing rates low. This should lead to cap rates being relatively stable, which will attract more foreign investment into Japanese real estate. In Japan, the government is determined to hold down bond yields, leading to bank financing being available at sub-1 percent. This is in stark contrast to other many other countries in the Asia Pacific region, such as Australia, where borrowing costs are over 4%.

A rush of foreign capital has indeed occurred, as overseas investment in Japanese assets rose 11 percent in the first three quarters of 2022 to US $8.1 billion, according figures provided by Morgan Stanley Capital International—a figure that would have reached over 30 percent if not for the weakening yen. Overseas investment rose by double-digit figures in Japan, while it dropped significantly in China. The Yen dropped by 22.38% versus the US dollar, the highest such plunge in the Asia Pacific region. While players in the real estate industry don’t traditionally try to make money from the currency when underwriting deals, more opportunistic and aggressive players are happy to invest with anticipation of a gain in the yen, which has indeed already occurred to some extent.

Of course, as seen with the Yen drop above, Japan is not immune to inflation. If global interest rates continue to increase, and the depreciation of the yen returns and worsens, the Bank of Japan is more likely to tighten its monetary policy in contrast to its usual easy money policies. This is likely to come towards or after April, when the bank gets its new governor. However, as Savill’s predicts, the outlook for the sector in general seems to be strong and stable.

Some Japanese are Returning to the Office – and Some Aren’t

Mirroring global trends in working from home, many workers in the metropolises such as Tokyo are simply not interested in returning to the office (nor sixty-ninety minute commutes for those living in the suburbs), and some companies are struggling to get their staff back to the office. In addition, some companies are leasing satellite offices in the suburbs, closer to where people live. Whatever the unique case of each company, it is clear that in industries that allow, the implementation of hybrid working schemes is the new normal.  While Tokyo’s population is not decreasing, with many people obviously moving here for more job opportunities, many working Tokyo residents have been already moving to smaller cities especially during the pandemic.

A series of articles provided by the Mainichi Newspaper have shown the degree to which this is manifesting itself in various forms. For example, beginning in April of 2022, Yahoo Japan Corp. began allowing its employees to live anywhere in the country, as some 90% had already been working remotely at that time. Yahoo had first established a system allowing employees to choose a location of their choice back in 2014, but introduced full-scale telework in 2022 amid the pandemic. Tokyo-based Nippon Telegraph and Telephone Corp. (NTT) moved some of the functions of its headquarters to Gunma Prefecture, northwest of Tokyo, partly due to the pandemic, and partly due to the area having few natural disasters and a convenient transportation system. NTT began dispersing 200 employees to Gunma, as well as Kyoto, beginning last October.

According to a survey by private think tank Persol Research and Consulting Co. the teleworking rate among full-time employees in Japan was 28.5%, with 80.2% of these employees wishing to continue such a working style. Although this is a common them all over the world, and not only Japan, it seems that the rate of teleworking among Japanese employees has a reached a point of no return, and companies wishing to retain staff will not be able to easily turn the post-pandemic era into one resembling the pre-pandemic era. 

Impact of 2022 Tax Reform on Real Estate Market

The Ministry of Land, Infrastructure, Transport and Tourism (MLIT) announced that the general outline of the 2022 tax reform includes the extension of tax breaks for mortgage loans. The extension of the mortgage tax credit can be expected to have a large impact on consumers’ willingness to purchase real estate. As well, with many parts of the real estate market being driven by Japan’s notoriously high gift taxes and inheritance taxes, there has been a very significant extension of the exemption from gift tax for funds to be used for home acquisition. The maximum amount of tax exemption is 10 million yen for so-called ‘high-quality’ houses, and 5 million yen for other properties. There has also been a two-year extension for applications for reduction of property tax for new housing, which most people can take advantage of, except for those building in areas not approved in a given municipality.

The goal of these measures is to promote the acquisition of housing by the middle class, stimulate residential investment, and expand housing with good environmental performance and energy efficiency. These measures will also be well-received by those who have suffered after the 2019 sales tax hike and especially those in industries hit hard by the coronavirus pandemic.

The Japanese Housing Market as Investment Opportunity

Returning to an area of the real estate market that more readers of this article may be interested in investing in, the residential sector of the real estate market is poised for a further increase. According to an investment an investment thesis offered by Knight & Frank, Japan and Australia are specifically identified within the APAC area as promising areas for further gains. These sectors tend to perform well in a downturn and possess strong fundamentals with rental growth prospects linked to inflation. According to the thesis, demand will likely increase from offshore investors due to the low borrowing costs, and their resilient income profile will likely attract further investors.

The residential sector in Japan continues to see strong demand from foreign institutional investors, who have largely priced out local REITs. As a report by PWC points out, Japan has for several years been a magnet for institutional investors willing to put up with smaller yields by leveraging their deals and hoping that rental increases and more cap rate compression will lead to successful results. The appeal of renting has also increased due to rising construction costs pushing the price of properties out of reach for many in some areas, so this will bode well for investments in multifamily residential assets.

Conclusions

Japan’s residential market and tourism-related properties certainly hold promise for investors going into 2023, but those considering investments may want to wait until April to see the direction of Japan’s macroeconomic policy, while also being careful to check for demographic and tourism trends in the exact areas they plan to explore for opportunities. As the macroeconomic picture changes greatly, many bargains may arise, if those holding properties are forced to sell when not able to keep up with loans.

While the outlook for Japan’s real estate market in various sectors is quite positive even if monetary policy is gets tightened (and especially if it doesn’t), investors would be advised to wait until the BOJ’s plans are made more concrete for a clearer long-term view. As mentioned in last year’s report, the country remains attractive for those seeking stability, and is becoming even more attractive in the post-pandemic world, at least as one area to consider within a diversified portfolio. If the market did not even falter much during the pandemic, it will be interesting to see what happens in the rest of the year after the BOJ’s intentions become clearer and the world returns to Japan in numbers even close to those before 2020.

Sources:
Japan hotel room prices soar on inbound travel recovery
February, 2023. Nikkei Asia. https://asia.nikkei.com/Business/Travel-Leisure/Japan-hotel-room-prices-soar-on-inbound-travel-recovery

Emerging Trends in Real Estate (Asia-Pacific)
December 2022. PWC/Urban Land Institute. https://www.pwc.com/sg/en/publications/assets/page/emerging-trends-real-estate-asia-pacific-2023.pdf

Japan’s stability will prove attractive in 2023
December, 2022. Savills. https://www.savills.com/prospects/views-japans-stability-will-prove-attractive-in-2023.html

2023: Pivoting Towards Opportunities (Asia-Pacific Outlook)
December, 2022. Knight Frank. https://www.knightfrank.com/research/article/2022-12-01-asiapacific-real-estate-market-outlook-for-2023-

Predicting the 2023 Real Estate Market (From the Perspective of a Landlord)
January, 2023. Rakumachi. https://www.rakumachi.jp/news/column/303619

PERSOL Research Institute, Fourth Survey on the Impact of the New Coronavirus Countermeasures on Telework (Preliminary Report).
January, 2021.

Fourth Survey on Changes in Lifestyle Attitudes and Behaviors under the Influence of the New Type of Coronavirus Infection.
Cabinet Office of Japan. November, 2021. https://www5.cao.go.jp/keizai2/wellbeing/covid/pdf/result4_covid.pdf

住宅ローン減税等が延長されます！～環境性能等に応じた上乗せ措置等が新設されます (Mortgage Tax Credits To Be Extended! New measures to be introduced for environmental performance, etc.).
November, 2021. https://www.mlit.go.jp/report/press/house02_hh_000172.html

コロナが不動産市場へもたらした影響と今後の見通し (Corona’s Impact on the Real Estate Market and Future Outlook)
June, 2022. https://corporate.tas-japan.com/community/column/testcate_a/2022/06/22