Real estate investment remains strong, due partly to inflation concerns, says Frank Schnattinger, who presents findings from his latest survey of German investors

Institutional investors in Germany are increasingly focusing on real estate and other ‘real' assets. They are looking for a substitute for their low-earning fixed income investments but also fear a potential inflation scenario. But the recent survey of IPE Institutional Investments also shows that suitable assets are difficult to find.

The survey was carried out among institutional investors in Germany in January and February this year. Some 160 investors with combined assets of more than €620bn from different investor groups such as pension funds, insurance companies, foundations and family offices gave their views on different asset classes, including real estate.

Showing a slight increase compared with last year, the survey revealed that nearly 40% of the investors increased their exposure to real estate in 2010. It may not please everybody in the real estate industry, but about one-third of them said that direct real estate investments, particularly in Germany, were part of this strategy. 38% stated that their preferred vehicle for investment has been a Spezialfond. Mutual fund solutions dropped back to 20%, whereas REITs and other listed real estate solutions still have not found the way into investors' hearts.

Regarding investor groups (occupational) pension funds as well as insurance companies have been the most active players in the market. Less interest has been seen from corporates and banks. Here the issue of long-term, stable cash flows might be less significant.

Similar to real estate investments, infrastructure has set a new record in the interest of the investors. With pension funds (39%) and insurance companies (26%) it was the usual suspects who said that they are currently exploring ways to invest in that asset class. Besides this 50% of insurance companies said they have already made first investments in infrastructure projects or funds.

One argument for the continuing flow of money into real estate and infrastructure that consultants use to explain the growing interest in the German market is low interest rates. "With current Bund (German government bond) yields a bit more than 3% no institution will be able to match with the liabilities," is an argument many investors are giving. So some fresh money is moving from fixed income to real estate and other real assets.

Another argument that came up in this year's survey is the fear of inflation thanks to the generous fiscal policy of the Federal Reserve and central banks. When asked, investors said that they would expect an inflation rate of about 3% or even more per annum for the next years - a scenario that would net the current yield of the 10-year Bund to zero. No wonder 43% of investors said they would increase their alternative investments such as real estate and infrastructure in case this scenario becomes a reality.

In term of regions, investors seem to be quite focused on the German market, as well as on other European markets. Only a few said they were looking for more exposure in Latin America, Asia or the US. Obviously the strength of the German economy explains the home bias.

But investors also highlighted one problem: with more interest in this asset class and prices going up, there are only few ‘objects' in the market that will match the desired risk/return profile. So a number of investors noted that they might not be able to extend their real estate allocation as far as they want. This might lead to fewer transactions and investments than expected. There is a clear view by many investment managers working in the German market. "It makes no sense to sell a value-add portfolio to an investor looking for core/core+ objects, but in terms of yield expectations many investors would need to look at this," an investment manager says.

But it seems that the industry has learnt from mistakes made during and after the financial crises. Most of the investors said that they were quite happy with the relationship management, servicing and reporting of their real estate managers.

Frank Schnattinger is editor-in-chief of IPE-Institutional Investment GmbH based in Munich