Securitisation still young
Real estate has always been an asset class demanding special attention from institutional investors. Usually fund management acquire properties for an extended holding period, taking into account that the management and operation of properties requires specific manpower and skills, whereas transaction costs are considerably higher than for stocks or bonds.
However, flexibility and liquidity of assets are characteristics that become increasingly important in today’s markets because assets are managed actively to optimise performance. There is a need for real estate that can be bought and sold under narrow time horizons. The answer is often proclaimed to be securitised real estate, ie shares of publicly quoted property companies, or similar vehicles. The public real estate asset class, as opposed to real estate held privately, has attracted the attention of European institutionals. So is securitised real estate the vehicle to win larger funds from an increasing base of European institutional investors in the near future?
The US is a frontrunner in securitised real estate, the Reits markets being a role model for Europe to a certain extent, but with its own ups and downs. Performance of US Reits, as recorded by the industry organisation National Association of Real Estate Investment Trusts, was quite disappointing in 1998, with a negative annual total return of almost –19%, whereas 1996 delivered more than +35%. 1999 has not pushed Reits on the sunny side so far, however total return is not as disillusioning as in 1998.
The lesson from the US seems to be that public real estate still goes with the broader stock market in the short run, and there can be significant volatility within the property stocks segment. Correlation of real estate stocks is positive in relation to major stock indices, so it seems that real estate stocks are not as good a diversifier as the single traditional private property. In this respect, the property share should be considered as an investment alternative of its own.
Germany’s real estate markets are stabilising, and property shares have taken this momentum into account. Dimax, an index for German property shares developed by private bank Ellwanger & Geiger, shows that the trend for German property shares has been steadily rising since 1997. Dimax outperformed German general stock index Dax as recorded by September 1999.
Ellwanger & Geiger also features an index for European property stocks called Epix, which includes major European property titles such as British Land, IVG, Rodamco and Cofinimmo. Epix underperformed Dimax because of the influence of the UK stocks it includes.
There is not a uniform trend for property stocks in Europe. UK property stocks were trading at a discount to net asset value above the 20%threshold at year-end 1998, and share prices were mediocre in comparison to the period a year earlier. The Asian crisis was one influential factor, and another was the fact that market sentiment expected the UK property markets to have reached their peak.
However the German sector, still small in market capitalisation, is in take-off mood: more and more companies outsource their property to go public. Companies such as IVG, WCM, Bayrische Immobilien and Bau-Verein Hamburg build up European portfolios, their market cap usually in the range between e100m and e4bn each. ABP Structured Investments, SFB Real Estate and Jones Lang LaSalle Co-Investment took a 48% stake in Bau-Verein, a move that underlines the growing attention of institutional investors. Moreover, this transaction is seen as an opportunity for the investors to diversify into residential real estate, and it demonstrates the ability to tap the potential of foreign markets by means of the property share vehicle. Deutsche Bank successfully placed a product called ‘Deutsche Wohnen’ in 1999 that offers institutional investors shares to invest into a German portfolio of about 30,000 flats.
Apart from differing performance, there is one factor that German and UK markets for public real estate have in common: liquidity and market cap of some companies is still too small. It is expected that the sector will see further merger and acquisition activity in the future, with smaller companies losing ground. There is also the valuation problem: a standardised valuation methodology, for instance for German property stocks is still in its infancy. Some players in the market can only offer a limited track record so far, because they are new to the market. For investors in these companies it is much more difficult to assess their investments in terms of long-term performance. Different legislation in each European country allows for different methods of building up hidden reserves in publicly quoted property companies. A fact that complicates comparisons of companies on a European scale.
The securitised sector is still young in Europe and will mature in the coming years. Bernhard Funk is responsible for European marketing and research at Eurohypo in Frankfurt.