Editor’s Choice: Forward thinkers

Europe’s residential market is at a crossroads.

In the coming years forward-thinking investors will create a pan-European institutional investment class, Marcus Cieleback, head of research at Germany’s Patrizia Immobilien, predicted at PropertyEU’s residential Investment Briefing in London this week.

The current low bond yield environment is a key driver, he added. ‘Residential is traditionally the lowest yielding asset class. But bond yields are so low at the moment that it is now very attractive. The big institutional players never saw it as an alternative, but that is now changing.’

Indeed, with residential yielding a respectable 4.5%-5%, that compares very favourably to German bonds which are currently returning as little as 0.5%. There is just one snag: across Europe the institutional residential market still has to be built. Or, as Alex Greaves, fund manager of the UK Residential Fund at M&G Real Estate, put it, it is ‘miles away from where we could be’.

Andrew Pratt, senior residential adviser at Patrizia in London, believes there is just one way to get liquidity into the market. ‘We have to create the stock…we have to build innovative product for future institutions.’

Both Patrizia and M&G are doing just that. Patrizia, which has a strong base in its home country Germany, is spreading its wings in a number of markets in northwestern Europe including the UK and new residential developments there are now on the cards.

The same is true for M&G. The real estate arm of insurance giant Prudential aims to double the size of its UK residential portfolio this year from £140 mln and is poised to close a number of deals in the first half of this year involving new developments, Greaves said.

FORWARD FUNDING IS A WAY TO ACCESS STOCK
Forward purchases and forward funding are a way to access stock, he explained. ‘The UK has a capacity for not building. A total of 115,000 homes were built in the UK in 2014, but we need 240,000. Each year we need 50,000 new homes in London, but only 20,000 were built last year. There is a massive shortfall.’

Certainly in London, the supply-demand dynamics all point to a favourable climate for further institutional investment. At the same time, the absence of home-grown institutional investors in the market is almost a deterrent to foreign investors, Greaves noted. ‘The collective view is that institutions need to come into the market and one of the questions I often get asked is: why haven’t UK institutions invested?’

One savvy foreign investor who has taken advantage of that gap in the UK market is Dutch pension fund APG. Thanks to its joint venture with UK residential specialist Grainger, APG is building up a sizeable portfolio of residential real estate in the Greater London market. Earlier this year, their joint venture GRIP Unit Trust acquired a build-to-rent scheme from developer Bouygues in a forward-funding deal worth £33 mln (€44 mln).

The 90,000 sq ft (8,360 m2) development forms part of the wider Hallsville Quarter masterplan, a new £3.7 bn mixed-use regeneration project in Canning Town, London, which is being undertaken by Bouygues Development in partnership with the London Borough of Newham. APG is also involved in the development of a private-rental sector project at Tribeca Square in the Elephant & Castle borough in London together with UK property developer Delancey.

The presence in the UK market of Dutch players like APG, but also PGGM, which is spearheading new student accommodation projects with local partners Unite and University Partnerships Programme, is in many ways a logical next step. Unlike their UK counterparts, Dutch institutional investors have a long tradition of residential investment which dates back to the post-war period of reconstruction when housing was in seriously short supply. But while the market has progressed since then, the Dutch market finds itself at a new turning point and like the UK faces a massive shortfall of private-rental sector stock.

INVESTORS ARE GETTING CREATIVE
In contrast to the UK, however, a significant number of local heavyweight institutional investors are now gearing up to develop that market. A case in point is the real estate arm of insurer Syntrus Achmea, which is also a big investor on the debt side in the Netherlands. The Dutch investor is set to remain a big buyer in the Dutch residential market, in particular of development projects, its managing director of investor relations Jaap van der Bijl recently told PropertyEU. ‘We have €1 bn to allocate to Dutch residential. In Amsterdam, there’s a strong need for new mid-range rental apartments.’

Like most institutional investors, Syntrus Achmea normally shuns away from value-add and opportunistic investment, but the ultimate goal of its development projects is to get access to core product, Van der Bijl said. ‘We remain very cautious, but we like development to core.’

In the Netherlands and other northern European markets which face a glut of obsolete office space, investors are getting more creative and converting offices into residential. Germany’s housing market is also expected to see growth in the middle segment in the next few years as demand for affordable homes surges, according to senior analysts at Catella Group.

Klaus Franken, CEO of Catella Property Germany, said the focus would move away from large acquisitions at the top end of the market towards affordable housing, where construction has picked up in response to demand. ‘Instead of price hikes in the top segment, the market will focus on newly built "affordable living space" – and this is a good thing,’ he said. ‘Demand for such housing is virtually unlimited, and there is a lot of catching up to do. This applies to both users and major institutional investors.’

IRELAND ALSO HAS POTENTIAL
Other markets that Patrizia’s Cieleback believes have good potential, also for upgrading or breaking up of stock, include Ireland, Sweden and Denmark. ‘Ireland is one of the opportunity stories of the last few years,’ he said. ‘So far, we’ve mainly seen smaller players there but the bigger ones will come,’ he predicted.

While the development of a private rental housing sector is a priority for many cities around Europe, Cieleback is more sceptical about the potential for investment in large swathes of Eastern Europe as well as Italy and France. ‘In Poland, it might work in the bigger cities, but it is challenging,’ he said. Italy and France are not easy due to local regulation, he added.

With Germany now poised to develop an institutional residential market, Swiss private equity real estate investor Corestate Capital is casting its net wider in its search for more opportunistic returns. After selling off about €1.5 bn of its German residential portfolio in the past 18 months, it is now targeting Spain for the next phase in its cycle, Sascha Wilhelm, Corestate's chief operating officer, told PropertyEU’s residential Investment Briefing last week.

The company aims to build up a sizeable portfolio in the country, he added. 'Our goal is to generate returns of 15% to 18%, which have been increasingly difficult to get in the German residential market. That is why we have stepped out of Germany, where prices are high, and have taken the decision to enter the Spanish market, where prices are still low and the situation is improving. We have found a good local partner because we strongly believe that residential can be a successful investment only if √you have the local knowledge and people on the ground literally checking the lease contracts.'

Corestate is aiming to get in on the ground floor in Spain. But with a youth umemployment rate of up to 50% in the country, the Spanish market does not have the healthy fundamentals that most institutional investors would feel comfortable with. Corestate may be a forward thinker, but for the moment the development of an institutional residential market certainly seems more viable in northern Europe than in the south.

Judi Seebus
Editor in chief