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Niel Harmse

Niel Harmse

Vice President, MSCI Research

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Could COVID-19 Topple Global Cities' Dominance?

  • Pandemic-era trends may affect income growth and investment return for office property in global gateway cities, where office property long attracted more capital inflows and produced higher capital growth than secondary markets did. 
  • While some of the outperformance can be attributed to yield compression, these cities also delivered higher income growth. Investment performance within global cities also varied over the 10 years to June 2020.
  • As global gateway cities’ outperformance put downward pressure on their yield, we’ve seen a larger percentage of purchase expenditure flow to secondary office markets since 2017 — a trend that the COVID-19 pandemic might have accelerated.


Institutional property investors turned to global gateway cities to diversify portfolios and generate capital growth in the years since the 2008 global financial crisis. These cities’ critical mass, connectivity and economic importance appeal to investors and occupiers alike, and the liquidity they offer differentiates them from secondary markets. But COVID-19 may jeopardize the relative dominance of these power cities.

Social distancing, remote working and changing mobility trends could affect growth in property income and by extension investment returns in these large, global cities. In August, we surveyed more than 400 real estate managers and investors who attended an MSCI webinar. The poll showed that most respondents at the time favored a hybrid return-to-work approach (78%), while 17% of respondents expected to return to the office full time and only 5% favored a permanent work-from-home option. In this post, we assess whether the superior capital growth of global cities was built on fundamental income growth or driven by the ability of these cities to attract a disproportionate share of capital flows. Analyzing purchase activity in the U.S. office market, we also looked for signs of whether investors have been allocating more capital toward secondary markets.


Was Gateway Cities’ Capital Growth Built on Solid Ground?

Global gateway cities New York, Paris, Tokyo and London were the top-ranked cities in terms of purchase activity for the period from 2001 to 2019 (accounting for 17.8% of purchase activity across all property types by capital value), according to the MSCI Global Annual Property Index.

For office properties, the figure was higher, at 24.6%. But has the long-term investment performance been justified? For the 10 years ended June 2020, offices in global cities did deliver a higher total return — which was largely driven by capital growth.

But the components of the capital growth matter. Success may breed success, but is it necessarily a favorable characteristic? A market’s ability to attract capital flows may result in yield compression, which in turn underpins capital growth. However, when yield compression occurs in the absence of sustained fundamental income growth, it could, over time, lead to artificially high asset prices.

The exhibit below illustrates how the capital-growth decomposition of global gateway cities compared to that of secondary office markets within the same country over a 10-year period ended June 2020. The global gateway cities produced higher capital growth over the period when compared to that country’s secondary office market. For all four countries, the capital-growth outperformance comprised both higher yield compression and higher income growth. But cities are complex, and capital flows and investment returns are not always evenly spread within their borders.


Capital-Growth Decomposition in Global Cities and Illustrative Secondary Markets

Source: MSCI Real Estate


Location Within Cities Mattered

Global cities are, by definition, vast urban expanses encompassing many different districts. Even in the context of a city-focused strategy, however, institutional capital could be more focused on narrowly defined geographies like Manhattan, Paris’s eighth arrondissement or London’s West End.

Over the 10-year period to June 2020, these prime locations within the global cities all produced superior capital growth when compared to the rest of the city.

In all three examples, these areas received a larger portion of their capital growth from fundamental property-income growth as a result of a strong occupier market, but they also benefited more from yield compression — meaning they became more expensive on a relative basis.


Income Had Greater Impact on Capital Growth in Prime Locations

Source: MSCI Real Estate


Beyond Global Cities: A Shift to Secondary Markets

Sustained yield compression helped global gateway cities produce superior long-term capital growth, but it also made them more expensive than other markets and in a historical context. In an analysis of the 30 largest city-level office markets in the MSCI Global Annual Property Index, we found that net income yields hit a record low in 14 markets, while another 14 were within 50 basis points of their all-time lows, as of December 2019.

Given the escalating cost of property in global cities, have we seen a shift to secondary markets? In the U.S., there has been a gradual increase in the capital allocated to offices outside of the five main global and regional gateway cities.2

From 2005 through 2016, 60.6% of office purchases by value took place in the global and regional gateways of New York, Los Angeles, San Francisco, Chicago and Boston. From 2017 to June 2020, however, 45.7% of purchases by value took place in secondary markets — higher than the 45.4% for global and regional gateway cities. Smaller office markets (i.e., those outside the top 20) also saw their share of overall purchase activity increase — to 8.9% from 2017 to 2020 from 5.0% from 2005 to 2016. 


Since 2017, a Higher Value of Office Purchases Outside Global Cities

Source: MSCI Real Estate


During times of crisis, investors might adopt a more nuanced city strategy. In this blog post, we showed how a larger percentage of purchase expenditure migrated to locations outside of the main U.S. global cities since 2017, even though these large metros provided superior capital growth. Sustained yield compression helped global gateway cities produce superior long-term capital growth, but it also made them more expensive than other markets and in a historical context. But what could COVID-19 mean for these locations in the future?

As COVID-19 plays out, focusing on shifts below the headline figure may help in assessing the impact of the pandemic on the world’s prime office markets.


1Nihalani, A. 2018. “Global Gateway Cities: The Performance Behind the Hype.” MSCI Research Insight.

2 The largest five office markets by value in the MSCI U.S. Quarterly Property Index. are New York, Los Angeles, San Francisco, Chicago and Boston.



Further Reading

Global Gateway Cities: The Performance Behind the Hype

COVID-19 and Real Estate: The Devil Is in the Dispersion

Missed Rents’ Impact on Real Estate