Research shows that the retail sector in Germany is bucking a wider European trend. Martin Lemke explains
Germany appears to be almost aloof in the face of the wider European context: while unemployment has climbed to record levels everywhere in Europe, the jobless figure in Germany is the lowest in 20 years. The economic output is dropping across the continent, but growing in Germany. And while some countries are doing all they can to stave off the decline of their real estate industries, demand for fine properties in Germany is booming.
The interest in German real estate is particularly pronounced in the retail real estate segment. This type of property is particularly sought after among investors because it is less dependent on economic cycles - a characteristic of considerable weight in face of an uncertain future due to the European debt crisis.
What speaks in favour of Germany as an investment region are the country's sound fundamentals, including the low unemployment rate or rising household incomes, to some extent due to higher collectively-agreed wage levels in certain industries. The German economy is one of the most stable in Europe, and the same can be said for the German retail market.
But it is not just the latest stats that commend German retail real estate. Equally - or indeed especially - remarkable is the long-term development. Analysing the stats of the years since 1995 will actually reveal that Germany takes exception to the situation seen elsewhere in Europe.
A capital growth analysis shows that Germany's retail markets have emerged unscathed even from the most recent crisis, and that their development has gone against the European trend. While capital values in Europe almost without exception suffered losses in the double-digit range after the onset of the financial crisis, German top cities, such as Frankfurt or Hamburg, reported capital growth of 2-8%. Another remarkable aspect is that capital values of retail assets in German prime locations have not experienced dips since 2005.
The causes underlying this positive track record include, above all, the sound economic performance, and the confidence shown by investors: Germany has played the locomotive for the European economy since 2006, and its growth rates clearly exceed the EU average.
The development of recent years shows to what degree the German markets have uncoupled from established European reference locations and their market cycles. While initial net yield rates in Germany have remained relatively stable, they are subject to considerable fluctuations in certain areas of Europe. Changes by 50bps or more within a single year are anything but rare, and have been reported from southern and eastern Europe, among other areas, as well as from key markets such as London and Paris.
By contrast, fluctuations in Germany rarely ever exceed the mark of 25bps. What is more, the fluctuations that do happen tend to level out rather quickly, so that the long-term yield level is marked by extraordinary stability.
Here is one reason for the consistency: In Germany, the development of the capital value of retail properties is tied to the rent performance much more closely than is the case in most other European markets. In the latter, the poorly developed dependency has time and again caused fluctuations in capital value, some of them hefty, which in turn has caused assets to be either overpriced or underpriced. In Germany, by contrast, prices for retail real estate have been tied much more closely to actual demand over the past 15 years, a fact that is conspicuously reflected in rent levels.
Moreover, the figures for the years since 1995 show that many European markets experienced a serious decline in yield rates across several real estate market cycles. Cases in point include Lisbon, Madrid, Warsaw, Prague, Amsterdam and Brussels. In some of these markets, the yield compression is caused not least by the fact that they have caught up economically to established European markets such as the German one, and that the yield level has adjusted to the (lower) risk level as a plausible result.
The aspects highlighted so far are very clearly reflected in the risk/reward profiles of various countries. German markets are on record with an extremely low risk rating, and this even though they offer yield rates on a par with other European markets such as London, Vienna, and Dublin.
Retail more stable
Looking back, the historical data also suggests that fundamental developments, such as retail sales, have only played a subordinate role in terms of capital growth. For one thing, retail sales everywhere in Europe have proven much more stable than the capital value performance. Naturally, the two parameters should hardly be studied in complete isolation from each other.
Even if short-term sales developments play a negligible role for the capital growth of retail properties, they obviously do have a long-term impact. Structurally motivated dips in sales - such as those seen in Greece, Hungary or Ireland, which have dragged on for several years - have most definitely impacted capital values. For it is simply impossible to realise a permanently high rent rate without sustained sales revenues.
In short, the analyses show that not all of the markets follow the standard cycle pattern. Given the low yield fluctuations in Germany, a market entry is relatively independent from the general situation on this market. This is why German markets are particularly well suited for efforts to stabilise European and global investment portfolios. Near-term forecasts moreover indicate nascent capital growth in Germany, which is expected to coincide with rent hikes.
Pinpointing the right time to enter remains of key importance, of course, on markets characterised with a high fluctuation bandwidth. These are currently undergoing a development that will create new margins for rising yield rates.
In 2012, this will be true in particular for southern European markets such as Lisbon, Madrid, and Milan, but also for Budapest and Paris. In most of the other markets, yield rates have at least remained stable. All things considered, then, Europe currently offers any number of great opportunities to enter her retail markets.
Martin Lemke is managing director at Patrizia