What’s bred in the bone

‘Hard' factors such as regulation and liquidity only partly define the contours of real estate markets. The cultural stuff can be harder to negotiate. Shayla Walmsley reports

Why do Italians shop? The answer to that question might give us some insight into a claim put forward by Robin Goodchild, European director of strategy and research at LaSalle Investment Management, that what define specific real estate markets are as much nebulous yet intransigent historical factors as economic fundamentals and regulation.

Goodchild's thesis is less esoteric than it might appear at first because he's concerned less with the id of property markets than with their hardwired quirks. It is, basically, that markets develop not only under the pressure of events and economic forces but as a result of historico-cultural factors.

In fact, he sees three factors conspiring in the development of markets. The first, demand, is economic. The second, supply, is a response to demand. "Look out of the window," he says. "You can see new construction coming."

The third are capital markets - effectively determined by investor sentiment.
"What you have to understand is that, wherever demand is coming from, supply is local and it's determined by local factors - by how the market reacts, and the speed of market reaction, for example. There are universal forces - demand is always about economics - but there are lots of differences in supply."

He cites lease terms - tightly regulated in some markets, and in each market with a different balance of advantage between landlord and tenant. There is also an issue with how long supply takes to come through the pipeline - and how quickly oversupply is likely to happen. He compares Paris, which makes predictable the availability of land, with Madrid, which does not.

Likewise terms of trade. "In France, developers are happy to provide investors with a building for a fixed price, and the investor takes leasing risk. In the UK, it's much more likely that the developer will want more upside, less downside. It's about market practice."

To say the market makes the investor is not to imply that there is some inevitable - what cultural historians of Germany call - Sonderweg about specific markets that make them less than ideal for real estate investment. As an idea, it does not fly. Russia - top of few lists for transparency or credible pricing - is looking distinctly fetching as excess capital floods over the more amenable markets of Poland and the Czech Republic. There is no attributing that to the Great Patriotic War, Brezhnevian economic stagnation or the rule of the oligarchs.

Yet even in central and eastern European (CEE) markets that have been, sometimes erroneously, treated as semi-mature, investors have often overlooked the tortuous trajectory of liberalisation.

A Royal Institution of Chartered Surveyors report from a few years back identified some of the concrete consequences of unequal market development. The short history of (reliable) statistics, non-standardised financial statements, ill-enforced tax processes, corruption, data opacity and the patchy availability of title documents are examples of issues that are at least less pressing in mature markets. In the taxonomy of progress, developers started with inactivity as they waited for the market to solidify - for example, for the lifting of restrictions on foreign ownership; moved to caution as they cashed in the potential bonanza of opening CEE markets via conversions and eventually new development; hypergrowth as market rents increased - and so did supply; and the pursuit of equilibrium as scattergun development activity declines and properties with the strongest international developers, favourable location or efficient designs attract pre-leasing commitments and construction financing.

The complex emergence towards market economies is not confined to less mature markets. Goodchild compares London with Brussels, where demand comes primarily from public-sector bodies - demand that has increased with EU enlargement. "It isn't driven by market forces," he says. "It's more idiosyncratic."

In fact, underdevelopment can be to an investor's advantage. Thus it is with Italy, according toGiovanni Paviera, director general of Generali Property Investments.
"The Italian real estate market is underdeveloped because the residential sector is too important [at around 80% of turnover] and, because all the indirect investment in real estate, such as shares of property companies and Italian REITs are not so developed as in other European countries," he says.

Much is made of alleged corruption in the Italian real estate market. The arrest of the president of the shopkeepers' pension fund, Enarsarco, last autumn over the sale of the fund's property portfolio did not help. The allegations against Donato Porreca and others may have surprised few but they did make sense of suspicion among fund members that where there's investment in real estate, there's graft. (More likely, the funds - which are closed to new members - need to pay out, and a 50% allocation of real estate is not conducive.) In any case, recently introduced rules limit real estate holdings to indirect investment, leaving the market open to insurers. Generali's real estate portfolio is worth €20bn, of which around €10bn is in Italian property.
 "I don't know if the Italian real estate market is ‘politicised'. I think that is not a problem of real estate but a ‘global Italian economy problem'," says Paviera. "Obviously it's a problem for international investors that don't like a country with a lot of political activity and also for the Italian players that are not able to operate out of Italy. But it's not only a real estate problem as you can see in the Italian news¬papers these days."

Despite historical similarities and trends - the common-mould clerical-Fascist dictators of Spain and Portugal died within a year of each other, for instance - it is difficult to draw straight lines even across, say, southern Europe. What may be possible is the identification of sectoral clusters across these markets.

"In my opinion, the only thing in common between the southern European retail property markets is the fact that in general they are underdeveloped compared with UK and other northern European mature markets," says Rafael Gomes Pelote, market research manager at Portuguese property firm Sonae Siera. "The Portuguese, Spanish, Italian and Greek markets are all quite different."

Spain started building shopping centres in 1973, with a hypermarket format imported from France by retailers such as Carrefour; it took Greece until the late 1990s to catch up simply because it took that long for retailers to catch on to them.

What were divergent formats in the 1970s had by the 1990s converged - not least, says Pelote, because the dominant shopping centre model, then being replicated all over Europe, was "a great real estate product. In Southern Europe, specifically, I would say there are some key drivers related to the economic boost in southern Europe in the late 1980s and most of the 1990s, giving the consumer the purchasing power and the spending will necessary for retailers to establish their ground. Considering that retail space was a scarce resource, shopping centres were the obvious solution."
Where market-specific factors make a difference is in the pace of development. Thus Portugal and Spain now have the most mature of the southern European markets, though Italy, currently where Spain and Portugal were 10 years ago, ‘is catching up fast', and the level of current development is only comparable to what can still be found in fast-growing Spain. In contrast, Greece remains ‘at a very early stage' because of planning difficulties, poor market fundamentals, stronger city centre retail, and geographical distance from major European market players, which moved to Greece only after establishing their position in more mature countries.

Spain still has a dominant city centre whereas ¬Portugal has a marginally stronger consumer preference for shopping centres. "Even if we'd like to look at Iberian markets collectively, Portugal has historically been a different market from Spain," says IPD Portugal country manager Luis Pedro Francisco. "There's a different culture of street shopping. In Lisbon, people don't like street shops: they go to shopping centres because they want everything in one place. In Spain, that isn't the case."

Historico-cultural factors may have determined where they are on the maturity curve but all these markets tend to be moving, albeit haltingly, in the same liberalised direction. Yet even here Pelote sees a simultaneous trend towards (re)convergence and (re)divergence - in other words, a partial retreat to specificity.

"In terms of investment and asset and property management characteristics, I would say there are increasing signs of similarity between these markets," he says. "However, from the consumer point of view - which, in the end, is what influences the most - there are typical behaviours that will remain, and that will influence the shopping centre development in southern Europe.

"A lot is said in terms of how similar the shopping centres are, in design and tenant mix terms. I believe we are already at a stage that those who can make it different and more focused on the local consumer characteristics will be more successful, and therefore the trend would be towards difference."

That there might be a commercial benefit to maximising difference is often overlooked. In residential, for instance, Germany and Sweden have long been proud of tenant participation in social housing - which has not, of course, made privatisation any easier.

Patrizia, the German property company that has bought up a fair chunk of it, claims its success is in part due to the sensitivity with which it handles the acquisitions.
"We strongly believe that the social attitude and responsibility of an investor who intends to acquire housing portfolios plays an important role in every country - it is not specifically German," she says. "[It's just that] in the German market the acquisition and privatisation of public real estate portfolios is characterised by high political sensibility." She points to the city of Freiburg, where the result of a referendum on privatisation effectively halted the transaction.

The cliché that the only two certainties in life are death and taxes is wrong, it seems. There is a third. Add to death and taxes the recalcitrance of British planners. Goodchild comes close to suggesting that  the difficulty of getting planning permission from the worst of Britain's bureaucrats  is somehow hardwired into the cultural DNA. What is perhaps more significant is his belief that efforts at reform will perish against the stronger force of inertia.

"I've seen many initiatives to improve planning," he says. "I'm sceptical. The level of new supply needed is on a scale greater than anyone is contemplating.
"The Netherlands has a higher density so it should have higher land values [than the UK]," he adds. "It doesn't because it has a different attitude towards land development. For the Dutch, land is a utility to be made available. In the UK, you have strong anti-development pressure groups."

As a result, Goodchild is pessimistic about the likely efficacy of current government moves to revamp planning rules in the UK, including regional regeneration plans for brownfield and greenfield housing development and the recent Barker Review's recommendations for a speedier planning process.

Blame Wordsworth and the English Romantics. Blame the nineteenth-century Enclosure Acts. In fact, perhaps the culprit is less important than the consequences.
"Is it in the DNA? A chunk is set in it, and that makes it hard to change."
What does all this mean for investors? The impact of national idiosyncrasies is potentially significant. The lessons are these.

First, do due diligence. "There is a group of cross-border investors who are increasingly sophisticated and experienced," says Goodchild. "Others are going out of their domestic market for the first time and they need to understand what's different about the markets they're going into. When Swedish investors came to London at the end of the 1980s, they behaved as though they were still in Stockholm, and built with a Swedish office spec. It was the same with international investors in Germany building open-plan offices they were unlikely to be able to let."

Second, be prepared. "You have to balance the opportunity against the transparency of the market," he says. "Due diligence should tell you whether it's investible but it may be hard to see how things work until you get into a deal."

It still leaves us with the opening question. So now we know why southern European real estate markets have developed in the way they have. But the Italian passion for shopping? Some phenomena simply defy explanation.