In these pressured times Danish pension funds need to do more to convince their boards of the case for real estate investment, Gail Moss finds

The current market turmoil is influencing real estate investing by Danish pension funds but it is not, at present, forcing radical changes. "Our plan is still to invest further both at home and abroad in the short term," says Nikolaj Stampe, head of property at occupational fund administrators PKA. "The difference is that when we try to take advantage of the actual situation in terms of foreign investments, we take longer than we do when investing in our home market, so we can get a better overview of the trends."

PKA regards property as an inflation-proof investment, with only a limited correlation to other assets. All its property in Denmark is made as a direct investment, while it uses a mix of direct investing and funds for real estate abroad. PKA is a member of the Danish Real Estate Club, which was set up by five of Denmark's biggest penson funds nearly five years ago. Its purpose is to make it easier for its members - PKA, PenSam, Kommunernes, PFA Invest International, and Finanssektorens Pensions-kasse (FSP) - to invest in overseas property using indirect vehicles.

PKA's European holdings consist of two funds investing primarily in offices and retail, one in western Europe and the other in Moscow and St Petersburg; shares in a property company that owns offices in England; and direct investments in residential property in Berlin, in partnership with Topdanmark Pension. It also has holdings in two US funds, one investing in the New York residential market, and a pan-US fund investing primarily in offices and retail.

Stampe says that locally property is becoming a buyers' market."In Denmark, the daily property business is still only marginally affected by the financial situation," he says. "However, the market for transfers is dominated more or less by distressed sales, because those who can choose to wait are waiting."

Adam Calman, corporate finance partner at property consultants Cushman & Wakefield, says that for a number of Danish pension funds it is the ability to structure a range of different financial vehicles for property investing that has rapidly grown in importance. "Property has traditionally been seen as a diversifier against other asset classes, and so is very relevant at the moment," he says.

"The lesson in recent months has been in the way that indirect real estate has begun to perform. The established model of taking direct property assets, placing them into a fund, gearing the fund, and surrounding the whole structure with fees, works well for both sides in the good times." He explains: "But in the bad times, these funds are potentially not as effective a non-correlated diversifier, compared with other asset classes - such as equities or bonds - as the investors might want, because they've become more like financial instruments than real estate instruments, having fallen as far and as fast. The gearing makes performance quite volatile, while the fees dilute returns from direct property assets."

Calman explains that there are six ways for pension funds to get real estate exposure: direct ownership, funds, real estate equities, fixed income structures exposed to real estate, mezzanine finance (which is superior in both risk and return to normal senior debt), and property derivatives. "Some of the Danish pension funds are considering all of those routes," he says. "There is a recognition that the world is changing, and if they want to expand the consciousness of real estate in the minds of their CIOs, then they've got to be creative in presenting investment opportunities which give an exposure to real estate performance."

However, on another level, recent events have encouraged a wait-and-see attitude among funds.SamPension is a member of the Danish Real Estate Club, which is advised by Cushman & Wakefield, and is the most active member globally. Three years ago, SamPension decided to expand beyond Europe, which it had already explored via property funds, and venture further east to Japanese and pan-Asian funds, both country- and sector-specific.

"It was a conscious decision not to go to America at that time, because the dollar was expensive and asset prices were relatively expensive on a risk-adjusted basis," says Calman. "It was a pretty good decision, because the dollar had, until very recently, weakened significantly against the euro and the Danish krone, but it's still a good chance to go there at asset prices we haven't seen for many years. That's exactly the strategy we're looking to follow with SamPension over the next couple of years."However, there is also a strand of caution in this strategy.

"They are also concentrating on their existing holdings in Denmark, and indirectly around the world, and seeing where they're at," says Calman. "Things are moving so fast you want to make sure you're not mismanaging the assets you've already got. So I think they're going a lot slower and have been a lot more cautious over the last six to 12 months than they were before, and I think that's the right decision."

The promise of earning money, coupled with the diversification of risk, are the two main reasons why three Danish pension funds - Arkitekternes Pensionskasse, PJD (the pension fund for veterinary surgeons) and MP Pension (the pension fund for university teachers) - have invested in real estate. The architects' fund invests direct, while the other two employ a mix of direct ownership and property funds.

The property portfolio of the architects' fund consists of residential apartments in Denmark, almost all occupied by architects. Indeed, around one in ten of Danish architects effectively live in their pension fund. "Commercial property is considered to be too risky in relation to potential earnings," says Niels Erik Eberhard, chief executive of all three schemes. "In contrast, there is high demand for accommodation among Danish architects." However, Eberhard says there are no plans to make new real estate investments in the near future.

A typical geographical split for the real estate allocation of Danish pension funds is for 5% or more of the portfolio to be invested in domestic property, and a further 1-3% abroad, says Francois Xavier Douin, managing director, Nordic institutional business, JPMorgan Asset Management."Danish pension funds that have invested abroad tend to start off in Europe, but in the past couple of years we have also seen a lot of interest in Asia, via pan-Asian funds," says Douin. "This was a reflection of the view that the US market had become too expensive. However, interest is now turning back towards the US but it has so far stopped short of action."

He says that Danish investors go for core (and core-plus) strategies domestically, although they are a little more aggressive in terms of pan-European investing, preferring a value-added approach.However, he says that Danish funds with ambitions to increase their allocation to property have been thwarted by events over the past few months. This is because of limits, typically such as the 10% on all non-listed investments maximum imposed by law.

"Most pension funds have a limit on non-listed investments, which includes most property funds, although it excludes direct property investments," he says. "But if the equity markets go down, this limit is likely to be breached, so funds have to slow down the pace of investing."Danish pension funds in general have a home bias in terms of property investing, according to Lars Flaoyen, head of Nordic research and strategy at Aberdeen Property Investors.