Emerging markets are back on the agenda but are investors really ready to invest in them? Rachel Fixsen talks to pension funds and their advisers

Hans op ‘t Veld
Guido Verhoef
Private real estate fund has 15% exposure to EMs
Strategy focuses on develop-to-hold

The Dutch pension fund service provider PGGM separates listed real estate investments from its holdings of private real estate, but both sides of the portfolio provide exposure to emerging markets.

"In the listed real estate space we currently invest in emerging markets real estate through investment in companies listed in developed markets with exposure to emerging markets," says Hans op ‘t Veld (top picture), head of listed real estate. Examples of these investments include Hong Kong and Singapore real estate companies, he says.

The private real estate portfolio has exposure to China, India and other emerging countries through investments in private investment vehicles, says PGGM's head of private real estate Guido Verhoef.

The private real estate portfolio has the most exposure to developing economies, at around 15% of the PGGM Private Real Estate Fund's €5.7bn AUM. The PGGM Listed Real Estate Fund has less than 5% of its €7.1bn in these markets.

"In listed, exposure on a look-through basis is growing, as more real estate companies venture into emerging markets," Op ‘t Veld says. "We looked at emerging markets early on, and have held investments in emerging markets for almost a decade."

Verhoef is open to new investments in these regions. "The emerging markets will remain an important part of our portfolio and we will continue to look for new opportunities in both markets where we already have invested - like China - as well as new emerging markets, if the business case fits our strategy," he says. "Besides, our strategy focuses on develop-to-hold, as we prefer to have income-producing assets just like the Public Listed Real Estate Fund."

On the listed side, the attitude is more cautious. "In listed real estate, we are studying the benefits of increasing the emerging market component to a more substantial allocation," says Op ‘t Veld. "We tend to have a preference for investment in income-producing assets, especially if they cater to the needs of the growing middle class. Particularly in the emerging markets, there is a stronger tilt towards developers, which is a slightly different proposition."

Andrea van Buren

Unlisted exposure to China, Poland and South Korea
There is an ESG argument against EM investments

While most of its unlisted real estate investments are, not surprisingly, in developed countries, pensions administrator MN - which manages over €70bn for pension funds in the Netherlands and the UK - also has unlisted property holdings in several emerging markets.

MN's exposure includes China, Poland and South Korea, says Andrea van Buren, international real estate analyst at MN.

"The main reasons for investing in real estate in emerging markets are favourable fundamentals - like strong GDP growth, fast pace of urbanisation, growing population, growing consumer spending, and so on - compared to developed countries and higher returns," she says.

"The arguments against investing in emerging markets have to do with environmental, social and governance issues. For example, we don't invest in funds for residential where people are driven away from their land or houses to make developments possible."

For an investor, the case against emerging markets is also around the higher investment risks that are inherent in these developing regions. "There can be country risks, like unstable authorities, but also a risk in currency or a lack of transparency," van Buren says.

Now, some of the emerging markets in Asia are particularly interesting for MN because of their positive fundamentals. In order for an emerging markets real estate vehicle to be of interest to MN, it could be either a closed or open-ended fund, van Buren says.

As is the case for many institutional investors, the global financial crisis and its repercussions are still playing a big role in dictating investment strategy. "At the moment we have a stronger focus on core strategies with a low leverage, on behalf of our clients, due to the crisis," she says. "However, we believe there are some very interesting opportunities in emerging markets, especially in Asia."

Hermann Aukamp
Limited exposure to EM through pan-Asian funds
Happy to stick to current allocation


Germany's Nordrheinische Ärzteversorgung (NAEV) does have investments that give it exposure to some Asian emerging markets property, but only to a very limited extent, explains Hermann Aukamp, director of property investment at NAEV, the pension fund for doctors in Germany's North Rhine region.

"We only invest in pan-Asian funds, which are mainly invested in markets like Japan, and this is only a minor percentage of our real estate investments," Aukamp says.

This gives the €10bn pension fund some exposure to emerging markets through investments in Hong Kong, Malaysia and Korea - a level of exposure that NAEV is happy to maintain.

These investments have been held for eight to 10 years and there are no plans to increase this allocation, although sales of some assets within the individual funds could mean the German pension fund buys into similar funds to keep the allocation steady.

Getting more involved in emerging markets on the real estate side is not an attractive option for NAEV because of the nature of investment strategy it has established for itself.

"We are more or less a core/core-plus investor, and in order to invest in emerging markets you have to be in development," Aukamp says. "That is not our strategy."

Outside Germany, NAEV only invests indirectly via funds. Putting money into the physical development of property is the only viable option for investors in these markets because there is no real existing stock, he says.

"Emerging markets is a growth story, but on the other hand, there is a currency risk involved as well," he says. "You can't hedge most of these currencies, and we don't want to take a large currency risk on."

Hong Kong has always been a volatile market. "Malaysia is volatile too, and Korea has a problem of overcapacity on the construction side, so the market is slower there," he observes.

In China, local markets face issues such as too much construction, and slower demand for apartments because potential buyers are unable to obtain financing. But overall, this region is in good condition with no obvious reasons for investors to stay away.

Michael Nielsen
ATP Real Estate
Invests in central and eastern Europe, not BRICs
Strategy is to focus on familiar markets


ATP Real Estate, the indirect property investment arm of Denmark's DKK754bn (€88bn) statutory pension fund ATP, has investments in central and eastern Europe, but has so far eschewed property holdings in the BRIC countries.

"We review our strategy every third year, and up to now we have kept focused on Europe and the US," says Michael Nielsen, managing partner at ATP Real Estate. "We want to build up our exposure to these regions, and allow it to reach a reasonable size."

ATP aims to concentrate its property investment on the areas it knows well, capitalising on this expertise in these parts of the world.

"There's a higher risk profile in emerging markets, and it's harder to understand those markets," he explains. "With our resources and capital we have to concentrate on a known market.

"We find the risk in emerging markets is too high now, so we are not actively pursuing investments there," he says. "We might return, but we need more clarity, and not this level of uncertainty."

The fund's strategy over the past 10 years, of getting the highest level of diversification of risk profile in its European investment, has led it eastwards.

"During that time we have committed to a number of funds that do their business in central and eastern Europe. We have focused on getting the right people to run this," he says, adding that the risk with these investments is consequently more on the geographical side than on the manager side.

Through ATP Real Estate Partners I, the fund invested in the Heitman European Property Partners IV fund in September 2008, putting €75m into it. The Heitman fund makes opportunistic investments in build-to-sell projects and properties in central and eastern Europe, in the residential, retail, office and industrial sectors.

"We've tried to mitigate risk by being very careful in our manager selection. We make sure we team up with managers with a lot of experience in their particular market," Nielsen says.

Paul Richards
European pension funds are dipping toes in the water
Investment outside BRICs mostly opportunistic


Pensions funds in Europe are putting money into property in emerging markets, but this involvement is still limited to the continent's bigger players, says Paul Richards, head of European real estate at Mercer Investments.

"Because of the crisis, only now are pension funds thinking ‘maybe I could go abroad'," he says.

"Some of them are investing, but it's toe-in-the-water time. It is only the larger funds and they are only in a few markets."

The countries schemes are deciding to invest in are Brazil, China and India. The fourth BRIC country - Russia - is less on the radar because it is still seen as quite risky, Richards notes.

India also has drawbacks for investors. Real estate transactions are often proving difficult to execute because of the complexity of a system where property is passed down the generations.

Richards points to very high levels of growth in China, where investment has been mainly in the coastal cities but is now moving to second-tier cities inland.

"The issue in China is that the law and regulations change from time to time," he observes. In Brazil, the growing middle class is fuelling the demand for property, he says. The investment environment has improved now that the legal system is more stable and government policies are supportive of international investment.

Outside these main emerging markets, European pension funds are investing in other countries such as Malaysia, Indonesia and Vietnam, but Richards says this tends to opportunistic.

Investing in emerging markets property is all about getting extra returns, rather than diversification, which pension funds can get by spreading their real estate holdings across Europe and the US.

And there is the prospect of extra return for those investors willing to put some of their money in these countries, he says, but warns that risks abound.

"It's developing a building and leasing it out, which involves all kinds of risk, and the second layer of risk is the country itself," he says.

Paul Jayasingha
Towers Watson
Investors should look at the full scope of EM before deciding on regions
Best to find an opportunistic fund manager


While the larger European pension funds can and do invest directly in property in emerging markets such as China, Brazil and India, mid-sized investors tend to get their exposure to the regions through funds of funds or real estate securities, says Paul Jayasingha, senior investment consultant at Towers Watson.

"Most funds of funds that have a global strategy will tend to have a few managers in Asia, and they will have some exposure there," he says. Apart from the key emerging markets of China, Brazil and India, he says there are some specialist funds in Vietnam, while within Europe Poland is an interesting market for some investors.

But it does not make sense for a pension fund considering buying into emerging markets to begin by looking at just one or two areas. "If a client's interested in emerging markets real estate, they need to look at the full scope and see how they want to take advantage of the opportunities," Jayasingha says.

The markets are very different from each other, although because of the range of common risks associated with investment in these countries it is still meaningful to put them into one category. These risks include currency, legislation, environment and government, he says.

"On the other hand, lease structures can be different, as well as how property transacts," he says. "It's difficult to find a single manager who is good in all regions."
There are many underlying tailwinds or themes which support emerging markets growth, such as growing middle class and GDP growth, but stresses that these are not new and tend to be priced in.

"The issue these days is where is the value? That's why it's best to find an opportunistic fund manager who can take advantage of the underlying themes that are under-exploited at the current time."

While development is often one of the big drivers in emerging markets property, this is not always the case, he finds. "Sometimes it is a matter of taking advantage of distressed sellers. For example, in China and in Vietnam we've seen managers who have had a broader strategy, buying up property cheaply in these situations."