Compressing yields in Europe’s Real Estate Investment Markets

in Advisory, Real Estate, 08.10.2015

European property investments remain popular. With transaction activity in the first half of 2015 reaching the highest level since 2007, reflecting a 37% Y-o-Y rise, there is much to be positive about. Peripheral markets look set to rise further while competition for the best assets becomes more intense.

At EUR 65.5 billion, transactions in the second quarter of 2015 were up 16% on the comparative period last year. It is cross-border investors who drove demand for European investment properties, being responsible for 54% of total investment in H1 2015.

Office properties proved most popular at around 37% of total investments in H1/2015. These were followed by retail premises at 26%. Residential properties ranked third, with a 16% share, though notably investment values in this use category more than doubled Y-o-Y (+103%). Residential property investments have moved into focus for investors across the continent. Besides Germany, where they have become almost as important as the office sector, a trend towards more rental housing can be seen in the UK and Spain as well as in the CEE.

The UK leads the European property market

With growth of 56% compared to the first half of last year, investment activity reached EUR48 billion for H1 2015, reconfirming the UK’s position at the head of the European property market. In fact, this value represents almost 35% of the entire European property market. Transactions remained concentrated on the London area, representing almost EUR28 billion or 60% of total investment in the country. The London area therefore attracted almost as much capital as the whole of Germany, which is the second largest European investment market with EUR29 billion of investment. In Germany a particularly high number of large deals was recorded in the office segment, which added a substantial share to the striking rise of 35% in the volume of transactions Y-o-Y. In contrast to the UK and France, invested capital in Germany was spread broadly across several cities with Berlin ranking first (17% of total investment) and Frankfurt second (13%).

In France, a levelling out of investment activity can be seen, with a drop of 17%. Domestic and international investors contributed in equal measure to the negative trend, which manifested in a 21% fall in investment volumes in Paris. These are not entirely attributable to restraint in investor sentiment, however, as basis effects also played their part.

Peripheral markets are on the rise

Investors continue to favor peripheral markets. Spain is the fourth most active country for transactions, recording a total value of EUR5.9 billion in the first half of 2015. This represents an increase of 87% Y-o-Y. In Italy too, the value of transactions grew (+169% Y-o-Y). The CEE economies also had a good start to 2015 and are expected to continue picking up as they benefit from recovery in the Eurozone. In these peripheral markets too, the main market players are foreign investors, who for instance brought 70% of Italy’s total transaction volume.

Investors are becoming more active in residential property investments. This includes foreign investors that are not only targeting mature markets such as the Netherlands – where inbound investment accounted for 65% of total residential investments – but also more peripheral regions like the CEE, some of which are experiencing higher levels of construction activity and record residential sales volumes.

Competition is intensifying

In general, investors will need to look harder to find attractive assets that offer fair value. Competition for core assets has strengthened further, putting pressure on investors to expand the markets on which they are focusing to include secondary locations. In some of the most sought after investment spots, yields on purchase prices have fallen to all time lows and now stand well below 4% in some capitals cities – and even below 3% in London’s retail segment.

Despite this highly competitive investment environment with yields compressing further in both core and secondary markets, we expect strong underlying trends to produce a good property year in Europe in 2016. Although prices have reached dizzying levels in some areas, investors have only few choices of alternative investments that offer adequate risk/return profiles – a further increase in property allocations appears to be very likely therefore. Secondary locations or peripheral markets that have emerged from the downturn may be the beneficiaries of this development after the major concerns about Europe’s economic situation have been dispelled.

 

 

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