Some of Europe's eastern markets are showing strong progress but investors must watch prices as risks increase in some areas. Mark Faithfull reports

Amid the Europe's troubled property markets, today's best performers would have barely earned mention a decade or less ago. Romania, Bulgaria, Poland and the Ukraine all continue to attract investment, while even wary investors grow tantalised by the pros rather than the cons of Russia's opaque, under-supplied property market.

New Russian president Dmitry Medvedev's policy proposals suggest that housing sector reform and the fight against corruption will be priorities for his administration. Real GDP growth is expected to slow to an annual average of 6.7% in 2008-09, high energy prices, strong capital inflows and looser fiscal constraints will undoubtedly fuel inflationary pressures, though Russia's central bank is focused on shoring up banking-sector liquidity.

Yet it is less domestic politics and more macro-politics that is dominating at present, with the Russian/Georgian conflict and the impending missile bases in Poland causing more than a little concern. "Emerging markets involve a lot of risks such as liquidity, political uncertainty, transparency, and application of the rule of law that are over and above traditional real estate investment risks in more mature markets," cautions Robin Goodchild, international director and head of European Strategy, LaSalle Investment Management. "The weight of money chasing higher returns has misunderstood and underpriced these incremental risks and, in most instances, we believe pricing has not yet adjusted sufficiently to compensate."

Petra Blazkova, senior associate, European research with King Sturge adds: "In this region it depends market by market. Our view is that Romania and Poland are probably strong enough to handle the current situation. Bulgaria has its own corruption problems but being part of the EU does reduce risks."

In the Ukraine, however, the retail opportunities go hand in hand with significantly higher political uncertainty - "It is hard to say which way it will go," Blazkova reflects, while she believes that, because so much of the capital funding Russian projects is home grown, its real estate market should remain relatively unbruised.

Indeed, Moscow's real estate investment market is maturing steadily and significant deals continue to take place. This year, Russian developer AFI Development sold the remaining half of its Aquamarine II office building in the capital for an initial yield of 6.8% to one of the complex's main tenants. In April, KanAm Grund became the first German fund manager to buy in Moscow with its €570m purchase of prime offices and the landmark transaction set a new yield for offices of around 8% and should pave the way for more German open-ended funds - believed to be sitting on €22bn of equity - to invest.

However, current deals to date are dominated by private equity players. Morgan Stanley made its first property investment in St Petersburg in March 2007 with the acquisition of a 25% stake in RBI Holdings. Morgan Stanley also has stakes in Russian development companies RosEvro Development and RGI International. And L&RP has a joint venture with Russian warehousing operator and developer VVV Co to invest in around 1m m2 of industrial property in 10 Russian cities.

Similarly, Austrian property company Akron Group has entered into a €3bn joint venture with Russian developer Gazprombank-Invest to build office, retail and logistics assets in Moscow and St Petersburg.Last October, GE Real Estate Central & Eastern Europe made its debut in Russia by taking a $50m stake in a new property fund, Heitman Russia Property Partners (HRUPP), which will have $150m of equity to play with.

While Moscow office dollar rents have doubled in the past two years, the office sector in the country's regions is very underdeveloped - combined modern stock in major regional cities totals 850,000m2, less than 15% of the Moscow region's level, says US investment bank JP Morgan.

It believes that this sector has great potential because many Russian companies are opening regional offices in cities such as Yekaterinburg, Novosibirsk, Samara and Nizhny Novgorod - some of the countries famed 11 ‘Millionikki' cities (outside the big hitters of Moscow and St Petersburg) with populations of over one million. Agent Jones Lang LaSalle estimates that total regional stock could more than double to 2m m2 by the end of 2009.

However, "Regional office investments stand as risky and require case-by-case careful investigation," warns Olga Rudenko, senior consultant, capital markets, Cushman & Wakefield Stiles & Riabokobylko.In Moscow, expansion plans have been further hampered by a city moratorium on office construction within the central Garden Ring. Some companies, such as AFI Development, did secure projects within the central zone before the mandate.

For example, the company is planning to build the 400,000m2 Pochtovaya mixed use complex, which includes 80,000m2 of offices and it is also developing the Tverskaya Zastava project. Ludmila Potapova, AFI director of sales and marketing, says that, to redevelop a major parcel of land in the capital, AFI has had to pay to completely rebuild a major road interchange, aimed at substantially relieving the traffic congestion around the Belorussky Terminal in central Moscow.

Tverskaya Zastava comprises six individual development sites, including an underground mall, mixed-use business centres, office and residential buildings and a five-star hotel and Potapova says that AFI took the decision to proceed because of the complexity of finding suitable land plots in Moscow. "It's a very challenging task," she reflects.

Retail also continues to boom. "Regional retail is the highest growing sector by the number of projects being developed and capital committed to development," adds Rudenko. "Russia stands as a consumer driven market and will support high quality shopping expansion and significant income potential is expected from turnover growth as retailers have experienced 20% growth per annum for the past five years."

Like Moscow, neighbouring hub St Petersburg is expanding and developing rapidly under the umbrella of St Petersburg Open City, a strategy initiated by the city's political leaders seeking to establish the city as one of the top five tourist destinations in Europe.
The plans include the grand opening of a modern building and a new stage for the Mariinsky Theatre; The New Holland Island - a development project that will feature cultural attractions, commercial and residential spaces; The Seaport Passenger Terminal - expansion of the cruise ship port and construction of commercial and residential properties on the shore of the Gulf of Finland; and the 205ha mixed-use Baltic Pearl development, plus a new football stadium, improved transport links and hotel construction to boost available beds to 34,000 by 2009.

St Petersburg has leveraged its large state ownership of city centre land to generate income and to begin a massive process of regeneration. Around 14% of the land owned by the state has been put up for auction and, says Alexi Chickand, director of the city's development authority, legislation that enabled private public partnerships has extended the opportunity to invest. "The renovation has largely been residentially led; there is a lot of retail investment and in transport infra-structure," he explains. "We have good universities and a good location. That combination has attracted the automobile industry and now Toyota, Nissan, Hyundai GM and Suzuki have all built or have announced plans to build car plants. That will further attract their suppliers and we are fast becoming a Russian Detroit."

Chickand says that the local government is now looking at providing two major IT and telecommunications parks, one to the west and another to the south of the city as it seeks to attract knowledge-based rather than heavy industry to the city.


Records were broken all across the Central and Eastern European sector last year. Warsaw office rents leapt 59% - the biggest jump in the whole of Europe - while take-up in the city was at its highest ever. Growth in volume across the whole of central Europe jumped by 25.5% over the same period. Investment totals in Romania are racing ahead, and reached €2.2bn, up 144% on 2006.

Deka's ImmobilienFonds purchase in January of Andersia Tower in Poznan, Poland, for €82.5m and the €106m purchase of Bema Plaza in Wroclaw, south-west Poland, from Belgian developer Ghelamco Group, showed that the German open-ended funds are active in the region.

Ghelamco itself is developing a 45,000m2 office complex in Lodz, Poland's second city, and 17,200m2 of offices, called Katowice Office Center in Katowice. This year, Ghelamco also started work on the third stage of the 32,000m2 Trinity Park in Warsaw's Mokotów district and the 17,000m2 Crown Square in the Wola district.

In the first half of 2008, office deals were made for a total of €392m, over 87% of which was accounted for by the Warsaw market. Although the volume of transactions was down by 55% on the corresponding period of the previous year, it rose by 25% in comparison to the last two quarters of 2007.

The biggest transaction was the acquisition of 50% shares, valued at €160m, in the Rondo 1 office building in Warsaw by Australian fund Macquarie Global Property Advisors. The Renaissance Tower in Warsaw, leased entirely by Orange, also changed hands for €60m. Tulipan Park, a new investment in the industrial district of Służewiec, was bought at a similar price.

"No portfolio transactions were recorded in the market in the period, but within the next six months this will certainly change as a result of the sales of the portfolios owned by major investors such as Telekomunikacja Polska and Skanska," reflects Aleksander Loster, senior surveyor, capital markets group, Cushman & Wakefield Polska.

Bulgaria and Romania

As for the buoyant paring of Romania and Bulgaria, a variety of mixed-use schemes continue to take shape in markets that, to all intents and purposes, lack contemporary space across all the major property categories. Romanian real estate developer RED recently opened its first shopping mall the Armonia Retail Park in Romania in Arad, close to the Hungarian border. The €95m scheme totals 46,500m2 and is anchored by a 13,000m2 Carrefour and has been funded by Austrian institutional investor Immoeast.
Andrew Stear, managing director of RED, adds: "The opening of the Armonia Retail Park is a major stepping stone for RED and marks the first of a number of retail projects that will be launched in the next 12 months."

Indeed, RED currently has a €600m retail development programme in Romania encompassing shopping plazas, retail parks and neighbourhood centres and four neighbourhood centres under the Cadran brand.

Neighbour Bulgaria has led out its property boom on the back of its popularity as a leisure destination and with a strong retail focus. That, many believe, is already pointing to under-supply flip flopping into over-supply. "It's too late for anyone to get in now who's not there. It would be difficult to find a decent site," claims Ivo Hesmondhalgh, joint chief executive of UK/Bulgarian company Bulgarian Property Developments. "Two years ago, for instance, we looked at a project that had a 20% un-geared yield, which looked fantastic but then we found out it was to be the seventh shopping centre in the area. Varna has a population of 350,000-400,000 so it's not the kind of place that can support that. It would be pretty damn hard to attract any tenants."

Instead, BPD sees opportunities in the less-developed logistics sector of warehouses and distribution. "Bulgaria is the main European route to the Middle East by road and rail. That makes it attractive for distribution," says Hesmondhalgh.

"The Bulgarian leisure sector provides attractive investment opportunities, and if I should point to one specific project it would be Black Sea Gardens. Designed by Foster and Partners; this is the world's first carbon neutral luxury resort," adds Georgi Kirov, head of investment and corporate advisory services at Colliers International in Bulgaria. "Located on the coast, Black Sea Gardens offers excellent opportunities for equity investors".

There is huge interest among foreign investors and developers in addressing a chronic undersupply of offices in the country, which has led to 100% rental growth over the past 24 months. Office stock totals 750,000m2, with around a further 100,000m2 to be delivered this year.  

Rents are almost on a par with those of Moscow, and are twice those of Prague, Budapest and Vienna. In terms of occupancy, Colliers International estimates that Ukrainian companies take around 25% of the modern offices in Kiev, while the rest is split between Russian companies (20%) and multinationals (55%).

Office development in the country has been dominated by local players. The focus is on Kiev, where locals have been able to assemble the best plots over the past 10 years. Much of Kiev's centre is zoned for conservation, so a lot of the new development is taking place out of town, in a business area evolving towards the airport.

Outside Kiev, in Dnipropetrovsk, Odessa, Kharkiv and Donetsk, the country has four furthermikki cities, and there are two more whose populations exceed 700,000 - Lviv and Zaporizhzhya. Foreign companies are already slightly more in evidence in the regions as land is easier to secure.

But it is Ukraine's retail property market that is now experiencing dynamic growth. David Hutchings, head of the European research group, Cushman & Wakefield, adds:
"Buyers are focusing on areas with the clearest growth potential. Particularly for retail space, Ukraine ranks highly in this regard, with an acute shortage of modern space and strongly increasing demand from occupiers and investors."

And there have been plenty of deals in the past two years. European investor and asset manager Meyer Bergman European Retail Partners recently bought the Aladdin shopping centre in Kiev in a deal reflecting a net initial yield of more than 10%.

In spring 2006, US fund Apollo Real Estate Advisors bought the 16,000m2 Piramida shopping centre at an initial yield of 16-17% and in the same year Irish Quinn Group paid €37.9m for a 93% stake in the 38,000m2 Ukraina shopping mall from western European fund manager NCH Advisors.