Allthough small, at only 1% of Europe’s real estate in value terms, Finland is undergoing one of the most profound changes of all European markets.

On the one hand, there has been a surge of demand to invest in the market over the past two or three years. Domestic institutions have for many years had high allocations in domestic real estate and structural changes in the market, coupled with strong economic growth and relatively high real estate yields have led to a wave of foreign investment in the market. On the other hand, there have been significant changes in the appetite of domestic investors towards real estate, with increasing focus on indirect investing and greater appetite for foreign real estate.

Two changes will have a big impact on the near-term prospects for the Finnish market.

Underpinning the increased interest in the Finnish market has been strong economic growth, expected to be close to 6% during 2006, driven by buoyant exports and retail sales. The strong growth experienced this year follows a decade of excellent performance, with the economy averaging 3.7% GDP growth, close to twice the rate for the Euro-zone as a whole. Despite this performance, wage pressures have been contained such that inflationary pressures are very low, at half the rate of the Euro-zone.

The robustness of the economy has driven strong real estate performance, with Helsinki-based research house KTI Property Information reporting average annual returns of 8% since 1998, rates that are sure to be exceeded during 2006 given the strong yield compression experienced over the past year. Although the prospects for further yield compression remain limited, and while building activity is increasing, the market remains attractive, certainly in a pan-European context.

After peaking in 2004, office vacancy rates have steadily declined and with many of the new developments being build-to-suit or pre-lets, this is set to continue over the next few years. This is particularly the case for modern space, with vacancy rates remaining relatively high for poorer quality space in weaker locations. Yields have compressed by 150bp but, at 5.5-6% for the best quality office space, they remain higher than many.


European markets are particularly attractive compared with finance costs, and the amount of new development is increasing. The prospects for the retail market are also attractive: the strength of retail sales and the demand from international retailers to enter the market continues to drive demand.

It has been the attractive prospects for the market coupled with aggressive pricing in other parts of Europe that have driven the demand from foreign investors. Prior to 2003, there was little foreign investment but, over the past few years, foreign activity has surged, such that it represents close to 40% of all investment between 2003-05, rising to 45% for the first three quarters of 2006.

Despite the small scale and relative illiquidity of the market three broadly distinct types of foreign investor have been active in the market.

Firstly, the more opportunistic investors focused on portfolio transactions and more emergent property types. Secondly, in sharp contrast to the opportunistic investors, a number of German open end and special funds have acquired more core-type assets in the market. And lastly, a series of real estate managers has become more active, most particularly from Sweden but also more European/ international managers.

The range and depth of foreign capital, coupled with the good prospects for the market and the potential for further sale and leaseback activity suggests that high levels of foreign activity are set to continue, adding depth and liquidity of the market.

As with other Nordic countries, Finland has a relatively robust pension fund industry with a large value of pension fund assets relative to the size of the economy. Real estate has been a favoured asset class for many domestic pension funds, with high allocations, often 8-15% towards real estate. To date, much of this real estate has been held domestically, but there are increasing signs of growing interest in foreign real estate.

The relatively small size of the domestic market and the strong potential for diversification from overseas exposure are leading to increased interest in foreign markets, most particularly in the form of unlisted funds and, to a smaller extent, in real estate securities.

This increased interest in foreign real estate is set to continue as savings rates rise and as investors gain more comfort with overseas investing.

This change in the appetite of domestic investors, coupled with the surge of interest from international investors, represent profound changes in the Finnish real estate market. Both trends are set to continue as Finland becomes increasingly integrated in the international real estate market.

Peter Hobbs is global head of real estate and infrastructure research at RREEF