Editor's Choice: Red flags

It doesn’t seem all that long ago that the PropertyEU team had to scramble to find real estate investment deals in Europe above €50 mln.

In the wake of the global financial crisis, we lowered our threshold to €20 mln as financing dried up and brought the transaction market to a screeching halt. Now our editorial team is facing a new dilemma. As the market goes into overdrive, we have begun a debate on whether we should increase our threshold to over €100 mln.

Take today’s newsletter. Three of our headlines comprised investment deals near or above €350 mln. And they weren’t just by the largest players. The biggest deal we reported today was transacted by UK boutique fund manager Benson Elliot which teamed up with Chicago-based peer Walton Street Capital and French hospitality group Algonquin to acquire a pan-European portfolio of high-end hotels for €420 mln.

Hotels were once seen as an alternative real estate investment or the domain of well-heeled private investors from Asia or the Middle East. But that market too is now basking in the glow of broad investor appetite. Private equity and investment funds, particularly from North America, continue to actively target European hotel investment opportunities but other local players are also entering the fray. Last week one of Spain’s new REITs Hispania announced the acquisition of five hotels in Madrid and Gran Canaria and two office buildings in Madrid and Barcelona for a total of €126 mln.

M&A activity
A global hotel investment spree will likely propel volumes for the European sector beyond the €20 bn mark for the first time in the history of the asset class, recent research shows. JLL and CBRE have recorded roughly €10 bn) of investment transactions in the European hotel sector for the first six months of 2015 and just this week Savills predicted that investment transaction volumes in the UK hotel market could reach £8.5 bn (€11.6 bn) by end-2015, surpassing the peak of 2006.

These forecasts come amid a fresh wave of M&A activity in the hotel sector with news emerging this week that the Hyatt group is in talks to buy its US rival Starwood. Earlier, news channel CNBC revealed that at least three big Chinese companies were vying to buy the hotel firm. Indeed, the international hotel market appears to be on fire: Chinese insurance group Anbang paid nearly $2 bn earlier this year for the Waldorf Astoria hotel on New York’s Park Avenue.

That deal marked a record sales price for a US hotel but is not the only example of feverish investment activity. CNBC reported that another Chinese insurer has paid more than $2 mln a room for New York’s Baccarat Hotel, an all-time high on a per-room basis.

In Europe a handful of established investment managers such as APG, Union Investment and Invesco have managed to give hotels an air of respectability in the past decade or so thanks to their clear focus on the business class segment which tends to generate relatively generous and stable returns. But as a whole the asset class does not have a rock-solid track record.

It was only five years ago that Morgan Stanley was forced to hand back the keys of its $800 mln European hotel portfolio comprising Hilton Hotels in Strasbourg, Dresden and Barcelona among others to lender Barclays Capital. The assets were part of the investment manager's $8.8 bn MSREF fund
that lost around two-thirds of its value in the wake of the financial crisis.

Bull run
History will tell whether the exorbitant prices that have been forked out for some of the luxury hotels around the world in the past six to 12 months mark the zenith in the market. Closer to home, in a segment where most of us can relate to more readily, there are growing signs that the six-year bull run in German residential property may be near its climax in the current up-cycle, according to experts contacted by PropertyEU. A key indicator, market watchers say, is the €14 bn takeover bid launched in mid-October by Germany’s largest residential landlord, Vonovia, for rival Deutsche Wohnen.

While the bidding war is getting shareholders excited, some analysts are expressing concern. ‘Takeovers are a sign that real estate companies cannot grow profits any longer through increases in rental income and the value of their properties but only through acquisitions of rivals,’ Claudio Saputelli, head of global real estate at Swiss bank UBS, told PropertyEU.

‘Large-scale acquisitions only happen near the end of an up-cycle when share prices have risen so strongly that they can be used as a currency to buy other listed companies,’ added Georg Kanders, a Düsseldorf-based analyst at private bank Bankhaus Lampe.

'Flipping' in Central London
You don’t need to be a brilliant investment manager to recognise the red flags these analysts are raising. The underlying message in RCA's latest report on Europe's commercial real estate market points to another.

Despite a lull in activity in the third quarter, the firm is predicting there will be a strong end to 2015. But, the report adds, prices in Central London - which has led the rest of the European market through the cycle - are 77% above their long-term average. 'This suggests that for certain investment strategies we could be getting towards the end phase of the current upswing,' Tom Leahy, RCA's director of EMEA Analytics, warned.

In fact, the London market has been so strong that it has allowed some investors to trade in and out of the market within the space of two years and achieve substantial cash-on-cash increases in the sale value of their assets. RCA data show that there were 22 of these asset 'flip' property trades in the year to end-September.

When you see investors flipping, you know for sure it's time to raise the red flag.

Judi Seebus
Editor in chief