EUROZONE: Public envy Number One

Some of the world’s biggest real estate investors invest in both the shares of public property companies and in unlisted property funds. What they must be thinking at the moment.

It probably hasn’t escaped notice that shares in US REITs are up for the year by something on the order of 20 percent. Meanwhile, in Europe, the listed sector is up by a similar amount.

The obvious question is: ‘Does Europe feel like a 20 percent market to you?’  (Answer: It does not – maybe the listed property companies are just correlated to other financial stocks, which also have surged this year.)
Apart from that, there is a linked element that has worrying implications for the unlisted sector: the listed sector seems able to tap the debt capital markets fairly easily at the moment.

Just last month, five property companies announced bond issues to raise a combined €2.4 billion. Capital Shopping Centres Group, Britain’s largest specialist mall operator, raised £330 million (€414 million; $566 million) by selling six-year bonds. Fellow UK property company Hammerson issued a seven-year bond to raise €500 million, and British Land announced the terms of a €500 million unsecured convertible bond offering. Meanwhile, on the Continent, Klépierre issued a seven-year, €500 million bond that was nearly six times oversubscribed and French property company Unibail-Rodamco, which is Europe’s largest public company, successfully placed €750 million of convertible bonds in an oversubscribed offering.

The statement accompanying Unibail-Rodamco’s offering stated that the firm was paying a coupon of 2.2 percent on the debt and that the funds would be used to address general financing needs, including existing and future development projects, and to diversify its funding sources. Interestingly, the cost of debt for Unibail-Rodamco is now lower than that of French banking giant Société Générale.

In accessing capital markets now, some suspect these public property companies are opportunistically feeding off their correlation to other financial stocks to good effect. In addition, these companies are using their size and credit ratings to help boost the offerings. Apparently, there is a strong appetite among fixed-income investors for this sort of corporate debt, perhaps because buying property is an income-producing inflation hedge.

Whatever the reason, the ability of listed property companies to tap the capital markets is a concern for the private real estate funds industry. Unlisted real estate funds that want to acquire new assets and require financing to do so seem at a disadvantage. Indeed, it is a perpetual cycle that keeps coming round to haunt the funds business.

“They cannot be competitive on pricing assets because of the cost of capital – that’s where the market is at the moment,” said one global investor. “Maybe it is a matter of time before the markets are normalised, but I think for now this will mean that, as huge prime assets come to market, companies like Unibail and Klépierre will have a competitive advantage to acquire them.”

That is worrying for private real estate fund managers – not so much in the opportunistic space, but definitely among large core and core-plus funds going after the same assets as the listed companies. It also is something to ponder for global investors that invest in the two competing types of property firms.

Furthermore, it opens up a debate for the unlisted funds:  should they go public?
As was highlighted last month at the annual meeting of the European Public Real Estate Association (EPRA), many European non-listed real estate funds – which have grown dramatically since 2000 to dwarf the listed market – are struggling to refinance in the wake of the financial crisis and/or are coming to the end of their investment terms. EPRA said there is a pool of 336 unlisted funds in the UK with gross assets of €103 billion and 877 in the Eurozone with assets of €389 billion, potentially representing a huge reservoir of investible property stock.
Of course, EPRA has an agenda in that it wants more property companies to go public. Indeed, the organisation considers the public property sector to be punching below its weight.  

That said, the same study released by EPRA pointed out the similarities between the US market in the Resolution Trust Corporation era of the 1990s and Europe today. In the US, conditions in the early 1990s — such as low interest rates and bond yields, high yields on distressed assets and attractive valuations — led the US REIT market to grow by 1,400 percent and reach a market capitalization of $162 billion in just eight years. As the sector grew in size, it became more relevant to generalist investors and momentum allowed for further capital-raising success.

What does that remind one of today? It kind of sounds like a market where the shares of European listed real estate companies are up 20 percent for the year and one in which they can access cheap capital.