EUROPE - The IORP Directive for European pension funds has been criticised for treating real estate solely as a tradable asset and not as a potentially long-term, income-producing investment.

In its response to the consultation paper on the quantitative impact study (QIS) for the revision of the Directive, the European Association of Paritarian Institutions (AEIP) described the European Commission's proposed capital requirements for real estate as "simple-minded".

The association argued that the draft technical specifications on real estate should also factor in discounted cash flow models when calculating capital requirements.

"Real estate, as long-term investment, provides duration and anti-inflation effects that support IORPs efforts to close the duration gap between fixed income assets and liabilities," it stated.

AEIP argued that, as proposed, a simple downshift of 25% in the value of investments in real estate coupled with a fixed correlation of 50% to the interest rate risk part could "seriously" overestimate capital requirements.

The association suggested instead that if discounted cash flow models are used to calculate the market value of real estate investments, they should also be applicable when calculating the capital requirement for the corresponding risk.

"The risk should at least be divided in a part arising from the discounting of the cash flows and a part arising from the volatility of the cash flows," AEIP argued. The first part should be included in the calculation of the capital requirement for interest rate risk and only the second part should be handled as property risk, it added.

In addition, the AEIP believes the general market shock value of 25% for real estate is too large.

"There should at least be different shift-levels for investments in residential real estate and investments in commercial real estates," it said.