A two-speed market is emerging in Europe, with a slower pace of investment activity expected in the UK compared to continental Europe, according to a report by global adviser Jones Lang LaSalle. 'Diminishing yield spreads in Europe's heartland will lead to greater interest and activity in the smaller and less transparent markets as investors move further up the risk curve in the search for yield and potentially greater returns', said Tony Horrell, CEO of European Capital Markets at JLL. 'As the impact of capital growth reduces, investors will have to accept lower returns than they have become accustomed to and will have to focus on the real estate fundamentals of income and asset management opportunities to drive these returns,' he added.

A two-speed market is emerging in Europe, with a slower pace of investment activity expected in the UK compared to continental Europe, according to a report by global adviser Jones Lang LaSalle. 'Diminishing yield spreads in Europe's heartland will lead to greater interest and activity in the smaller and less transparent markets as investors move further up the risk curve in the search for yield and potentially greater returns', said Tony Horrell, CEO of European Capital Markets at JLL. 'As the impact of capital growth reduces, investors will have to accept lower returns than they have become accustomed to and will have to focus on the real estate fundamentals of income and asset management opportunities to drive these returns,' he added.

Direct real estate investment rose 9% year-on-year to EUR 120.7 bn in the first half of 2007, final data from Jones Lang LaSalle showed. Cross-border investment continues to dominate capital flows, accounting for 64% of total volumes in the first half of 2007, the global adviser said in its latest European Capital Markets Bulletin. Globally-sourced capital, unlisted and sovereign funds have all been drivers of demand whilst corporate sales rose three-fold as companies took benefit of the strong market conditions through sale-and-leaseback transactions. Portfolio sales rose more than three-fold year-on-year from EUR 11 bn to EUR 36 bn in the first half of 2007.

Whilst rising finance rates eat into profit margins, making deals appear less attractive than they used to be for the highly leveraged investor, there remain a significant number of other investors, including sovereign funds and other pension funds to fill their space. Growing interest from a range of capital-rich overseas funds, including Asia and the Middle East will maintain strong levels of demand albeit in a less competitive environment compared to the first half of the year.

Investor demand will remain strong across continental Europe with a high level of capital raised over the past year still to be spent in Europe's real estate markets, according to Horrell. 'We expect some caution to creep into the market and the pace of new equity-raising to slow in the second half of the year. Profit-taking and opportunistic sales by funds will increase the supply of product on offer in the market, encouraging vendors to adopt a more pragmatic approach to the transaction process. In the search for return, we expect to see a number of the larger funds continuing to shift their focus to include Asia where most markets have positive yield spreads and strong market fundamentals,' he said.