Residential Europe: Going global? Go local
Global residential strategies are a reality. But investors should be aware of the diversity of housing in Europe, writes Marcus Cieleback
The real estate investment landscape is characterised by two interconnecting trends: the continuous increase in target real estate allocations and the globalisation of real estate investing. The significant beta and alpha opportunities associated with international investing play an important role as global markets are becoming easier for investors to navigate. The globalisation of real estate investing has finally arrived in the residential sector.
Looking at the available performance data, a picture emerges suggesting considerable diversification benefits from a global residential investment strategy.
Taking a closer look at the performance of the individual countries over the medium term (10 years), an interesting picture emerges. Higher volatility in residential investing generally does not seem to go hand-in-hand with substantially higher returns. Instead there is a high-volatility group of markets that includes the UK, Sweden, the US and Denmark, and a low-volatility group consisting of Canada, Finland, France, Germany, Japan, the Netherlands, Austria and Switzerland.
To understand the differences in the aggregated figures, one has to look at the political, demographic and institutional landscape in each country. As a consequence, these historical numbers can only function as a starting point for developing a residential investment strategy – for example, the institutional changes in the Netherlands, the UK, Germany and Denmark in recent years imply very different expected returns in comparison with historical observations. As a consequence, any global or pan-European residential investment strategy must build on a comprehensive national – or local – network. A detailed understanding of the regulatory framework of a country is necessary to find the best investment options.
As the residential investing enters the mainstream, it is becoming more varied. New sub-sectors are emerging and niche segments are becoming more popular. As a consequence, the residential investment universe is larger and more diverse than it has ever been.
Within the sector there is a growing range of investment products, with varying characteristics and risk profiles. As a result, investors targeting residential investments have a choice of investment products offering a mix of income and capital returns. Three broad sub-categories can be identified: the traditional residential segment, the operator/brand-driven segment and the private-owner-driven segment.
Based on the risk-return profiles of the three sub-categories, a wide variety of investment strategies can be implemented. The traditional residential sector offers the lowest return perspectives in combination with low risk, while the operator/brand or private-owner-driven segments offer higher returns – often IRR-oriented – with a wide risk spectrum, depending on the investment.
Looking outside the traditional residential segment, student housing and privatisation have seen the biggest investor interest in recent years, becoming a less niche and more established institutional segment. But as a comparison of Germany and the UK shows, the increasing political backing for the development of larger, more professional rental markets in many countries with traditionally high owner-occupier shares, poses a challenge to the growth of student housing sector. At the same time European mortgage regulations might challenge some privatisation strategies. Senior living, micro apartments and serviced apartments, and the build-to-sell or rental segment are the next candidates for further professionalisation.
Against this background, the European residential market is becoming more international. Parallel to the regulatory and institutional changes introduced to support the development of or enlarge the existing private-rental sector, cross-border residential investments have taken off in Europe, with money coming from outside Europe. Investors from the US and Canada were the largest and second-largest investors in Europe over the last 24 months, followed by UK, German and Swedish investors.
Looking at these cross-border investment flows, interesting patterns can be observed. Most cross-border capital targeting the UK is coming from the US, Canada and Singapore. The UK market is the sole, or main, target of cross-border investments originating in these three countries. The remaining cross-border capital flows are of a much more diversified nature in terms of European target markets, with Germany’s large, liquid residential market the biggest recipient.
These different investment patterns can be explained by the types of strategy pursued by investors. While investors from the US, Canada and Singapore primarily rely on value-add or higher-return strategies, most of the remaining cross-border investors focus on a core strategy placing greater emphasis on the availability of investable product.
At the same time, European money is going global only to a small extent when it comes to residential investments, the US being the main target. German, UK and Swedish institutional investors represent 90% of the capital coming out of Europe. The other two countries that saw measurable investments outside Europe were Canada and Japan. While Japan is popular among UK, German and French investors, Swedish investors are targeting Canada.
Given continuing urbanisation across the globe and the associated housing shortage and low interest rates, the globalisation of residential investments will continue. Nevertheless, Europe will always have an important role in the global residential investment universe due to its established rental markets and several liquid, institutional residential investment markets.
As a result, Europe will be the market to go to for investors looking for residential (multi-family) exposure. Only the US offers a similarly large investment base.
Investors need to be aware that, unlike the US, Europe has a very diverse regulatory landscape, which needs to be understood to pursue a successful residential investment strategy.
But with a good understanding of these regulatory regimes, investors can choose from and implement a wide range of residential investment strategies in Europe to diversify their portfolios.
Marcus Cieleback is head of research at Patrizia Immobilien