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Investing in real estate is not a new phenomenon for Norwegian institutional investors. Property has long been a feature in their portfolios - the difference today is that fund managers are looking to both increase their stake in the asset class as well as cast their nets wider into other countries.

After all, location is important, but so too is diversification. The advent of absolute return investing has meant that the Norwegians as well as others in the Nordic region are wanting not only to enhance their returns but also mitigate their risks away from their domestic markets. In the past year, Danish pension funds pooled together to form the Danish Real Estate Club with the aim of investing €350m annually for the next three years into indirect overseas property funds. Nordea Life and Pension, the Nordic financial services giant, on the other hand, recently announced its intention to raise its overseas property stake to a significant €1bn from €125m.

Jon Lekander, head of investment strategy at Aberdeen Property Investors says: "Since 2000, there has been an increased appetite for absolute returns and Norwegian institutional investors such as life insurance companies and pension funds have increased their allocations to real estate. Currently, the average weighting stands at about 7% and I can see that climbing to 10% over the next five years. The trend towards investing in overseas property is relatively new but I see it increasing as investors continue to grow in sophistication."

Steve Mastrovich, a managing director in JP Morgan Asset Management's Real Estate group agrees, adding: "In the last two years, we are seeing institutional investors in Norway starting to diversify their returns. However, the regulations hamper proper diversification by placing strict limits on both alternative and equity investments. As a result many Norwegian pension funds invest a significant percentage of their portfolios in bonds, although this could change if the law changes."

At the moment, the fund management community in general is seemingly holding its breath for the final version of legislation drafts put forth by the Kredittilsynet, the country's financial supervisory authority. The proposals, which are currently being considered by the ministry of finance, include new investment regulations which would liberalise investments in equities and alternative asset classes.

For now, Norwegian investors are likely to adopt a slow and steady approach to investing overseas. They have been rewarded for their domestic efforts, reaping five-year total returns of 10.2% between 2001 and 2005, according to research from RREEF, the real estate and infrastructure investment management arm of Deutsche Asset Management. However, in the western European context, the country ranked seventh out of 12 on RREEF's league table of European direct real estate performance. The UK was in first place with a 12.9% return followed by Ireland, Portugal, Spain and Denmark.

The main problem is that Norway may be endowed with petro kroners but in property terms it is a small market where investors tend to buy prime locations and sit on them for many years. As a result, it is difficult for newcomers to get their foot in the door and for investors in general to find the right properties at reasonable prices.

As Peter Hobbs, head of global real estate and infrastructure research at RREEF, notes: "Norway is a relatively wealthy country but there are limited opportunities in its domestic real estate market. In order to generate higher returns for their portfolios and to benefit from diversification, pension funds have begun to realise that they need to look overseas. Although I see some of the larger pension funds investing globally, I think many will turn to Europe first."

For example, Akerhaus Fylkeskommunes Pensjonskasse, with NOK6bn (€727m) of assets under management is a typical example. Property is a priority but the public authority pension fund is taking its time. Paaul August Nordhagen, chief investment officer, says: "Our property portfolio, which is about NOK192m, is mostly invested in Norway although we have some property in Sweden. The biggest challenge for us is the lack of liquidity in our home market and the inability to sell. As a result, we are thinking, although we have not taken any action, about looking at opportunities in the rest of the Nordics as well as Baltic region. We are slowly building our stake in property and have increased our allocation to 5% from 2.4% over the past two years or so. Our eventual target is 10% over the longer term." The much larger Vital, the €27.2bn Norwegian pension insurance company, is also pursuing a cautious strategy. With roughly 11% of its assets under management invested in property, some 80% remains in the domestic market with 17% parked in commercial property in nearby Sweden. It took the plunge last year and dipped its toe into the European property market with a €40m investment in an international property fund run by Aberdeen International Investments.

Anne Lucking, director of client services, UK and Scandinavia, at LaSalle Investment Management, believes that it is only a matter of time before the larger players such as life insurance companies turn their attention to global markets.

"These institutions have money and can afford to adopt a truly global approach to investing. It is a natural progression and it now also easier to invest since the changes in regulation in the region have allowed the introduction of collective investment funds. This has opened the door to investing in not just other Nordic markets, but other regions and single country funds."

The spotlight will also be turned onto the The Government Pension Fund, formerly known as the State Petroleum Fund, to see the investment direction it will take. Many in the industry believe that real estate will receive a real boost if it decides to go down the alternative asset path. At the moment, it is contemplating a move into property although no firm decision has been taken, according to a spokesperson for Norges Bank, which manages the€176bn fund. Currently, about 40% of its assets are in equities with the rest in fixed income securities spread across a wide range of global markets.

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