Investors See 2010 as the Time to Target Prime European Real Estate

CB Richard Ellis Group, Inc. (CBRE) announced the results of a survey of more than 270 European real estate investors, revealing their intentions for the timing and focus of their investment activity over the coming years. The findings were launched at the company’s European Investment Briefing held at MIPIM, the international real estate event held annually in Cannes, France.

KEY FINDINGS:

Over half see an economic “double dip” or weak occupier demand as main risks to recovery

At a global level, 60% of investors identified Europe as their primary target for real estate investment in 2010. “This European preference is probably not surprising given that the vast majority of respondents are based in, and predominantly invest within, the region,” commented Nick Axford, Head of EMEA Research and Consulting at CBRE. “However, it is noteworthy that 40% see the best opportunities laying elsewhere, with Asia a clear target for many.”

The UK has undoubtedly led the recovery of both transaction volumes and prime property prices in Europe over the last six months, and it continues to attract significant investor interest. “The transparency and liquidity of the market, coupled with the rapid adjustment in prices and the weakness of sterling make an attractive combination in a climate in which investors are still risk-averse and focussed on prime product,” commented Jonathan Hull, Executive Director of EMEA Capital Markets, CBRE. “Any prime properties coming onto the UK market are attracting extremely strong investor interest, especially from overseas – but tenant covenant and lease length are key concerns for investors,” Hull added. Liquidity risk is also a primary concern, and it is therefore not surprising – given the size of the markets and relatively positive recovery prospects – that France or Germany appear most attractive to over a third of respondents. “We are now seeing a greater flow of capital to major cities beyond London, which is putting pressure on pricing particularly at the prime end of the market. But what is surprising is the strength of focus on the CEE markets, where transaction volumes have so far been extremely low over the past 18 months, perhaps suggesting that activity levels are set to stage something of a recovery during 2010,” suggested Hull. As yet, investors see fewer opportunities in the distressed Spanish market, perhaps believing that the window for entering this market will remain open for longer here than elsewhere.

The office sector has historically been the most liquid real estate sector, accounting for around half of all transactions on average. Offices clearly continue to attract significant interest, being identified as the preferred target for 39% of investors surveyed by CBRE. However, the retail sectors combined are of comparable appeal, viewed as most attractive by 34% of respondents, with shopping centres the most favoured sub-sector in retail. “Before the downturn, the shopping centre market in Western Europe, and increasingly in Central Europe, was becoming very similar wherever you looked: prime yields in a narrow range, finance terms similar, comparable rental growth forecasts, similar tenants, and even the same investors and developers. The prospects and pricing of retail real estate in different markets is now extremely diverse, and therefore demands a clear understanding of individual market fundamentals. There is also a very clear differentiation emerging between the prime locations and the rest of the market,” commented John Welham, Executive Director of EMEA Retail Investment, CBRE.

Whilst the yield-driven recovery in values across many markets is welcomed by investors, their principal concerns have now turned towards the occupational side of the value equation. “More than half of the survey respondents selected the risk of a ‘double dip’ recession or a weaker than expected recovery in occupier demand as the biggest potential threats to the property market. However, the relatively low level of development activity in many markets means that it is the prospects for demand, rather than supply-side risk, which is keeping investors awake at night,” said Axford. The parlous state of government finances in various countries and the prospect of rising interest rates and inflation were mentioned by a quarter of investors as their key concern. Interestingly, fears of forced sales appear low – or at least lower than other risks, although the shortage of available debt finance is seen as a major concern by a significant minority of investors.

Philip Cropper, Executive Director of Real Estate Finance, CBRE, commented: “Although 13% of respondents said that they believe shortages of debt finance will pose the greatest risk to the market recovery this year, and CBRE research shows that the levels of oustanding debt across Europe are a concern, for new borrowers lending conditions have definitely eased in recent months. Finance is available for the right opportunities when they present themselves. Respondents are also right not to be too concerned about the possibility of forced sales by banks or other lenders – the support that they are receiving from governments and asset protection schemes will help to extend the period over which problem debt can be tackled and a flood of secondary product onto the market is therefore unlikely.”

“The one thing that investors seem less worried about at the moment is property pricing. It was mentioned as their main concern by just seven investors in the survey,” noted Axford. “Current attention is clearly focused at the prime end of the market, where investors think that now is the time to buy.” Almost half of respondents said that the first half of 2010 represented the best buying opportunity for prime real estate, with most of the remainder preferring to wait until the second half of this year. This suggests that investment activity in this part of the market should remain strong – provided that buyers can identify the right assets to purchase. In contrast, interest in value-add secondary investments appears unlikely to pick up until later in the year, with over half the investors suggesting that 2011 or beyond represents the best time to buy. “Until investors have a clearer view of the shape of recovery and the prospects for occupier demand, it is understandable that they will remain cautious about taking on the leasing risk that typifies value-add investments. But with secondary yields currently remaining significantly higher than those on prime property, the opportunity to generate strong returns is clearly there for those who time their purchases correctly,” concluded Axford.

Tim O’Sullivan, Head of Capital Markets at CBRE Budapest commented: “After the core Western countries of UK, Germany, and France the CEE region is the next most popular investment target for investors. While investors are focused on CEE again, they are finding it difficult to find the stock which matches their requirements – it is not an issue of country risk anymore but lack of available good quality, well let assets.”