Brexits and Bubbles: How investors view Europe’s shaky real estate market
International buyers spent slightly more on American assets than European ones in 2019
For the first time in three years, foreign investors poured more money into U.S. real estate assets than European property last year.
The change marked a shift for investors who had been drawn to Europe’s ultra-low interest-rate environment, which has fueled an overvalued commercial market and a housing boom that could be approaching a bubble.
Now, with Brexit on the horizon and fears of a global slowdown, foreign investors have begun to pull back on the continent. In light of that, The Real Deal spoke to real estate investors and analysts on both sides of the Atlantic to see how they’re responding to the changing investment climate.
The road to below zero
All told, foreign investors spent $30.1 billion across 371 European real estate deals last year, compared to $65 billion across 423 deals the year before, according to data from private equity research firm Preqin. By contrast, foreign investors spent $34.8 billion across 288 deals on U.S. real estate, though that figure also is down from 2018, when $43 billion changed hands over 340 deals.
It’s been roughly five years since one of the first central banks in Europe pushed a key interest rate into negative territory, meaning essentially that it would start to charge commercial banks to hold deposits, rather than pay interest.
That bank — Sweden’s Riksbank — recently ended that practice. But the move to below zero set off a chain reaction throughout the continent, heralding an age of negative interest rates as the world recovered from one of the worst economic crises since the Great Depression. It has pushed some European residential real estate markets toward a “bubble,” with housing prices climbing 40 percent even though incomes have lagged and borrowing costs have never been lower. UBS Bank in a recent report cited Munich, Amsterdam, Frankfurt and Paris among the seven global cities most at risk of a housing bubble.
A July report from financial watchdog the European Systemic Risk Board found that in most European countries, commercial real estate prices are overvalued, driven by more investors searching for higher yields in part because of the European Central Bank’s low-interest-rate environment, Reuters reported.
Some investors continue to find U.S. commercial real estate – particularly in gateway cities such as New York – as attractive places to park their capital in a quest to find yield in an otherwise slow-growing global economy. That’s even as continued bickering between the U.S. and China led to a pull back of investment from Chinese buyers.
“Generally, investors globally are comparing returns in the U.S. to what they can get in their own country and elsewhere, so when it comes to financial investments, rates are much lower in Europe than they are here,” said Mike Fratantoni, chief economist at the Mortgage Bankers Association. “That’s driven a demand for U.S. Treasury securities, mortgage-backed securities, other investments in the U.S. that just have higher yield.”
And in Europe, particularly the U.K., the biggest cliffhanger for investors has been the impact of Brexit, along with fluctuations in currency conversions, said Charlie Thompson, a partner at London-based brokerage Farebrother/CORFAC International. The uncertainty with Brexit led to an investment slowdown, but confidence has started to return among some investors, he said.
Thompson also called the overall drop of investment into European assets last year “marginal,” given the amount of global political unrest unfolding.
An American (investor) in Paris
Still, there is little indication that interest rates will rise much in Europe any time soon, as the market continues to perform relatively well and the trend worldwide is for lower interest rates, said Alistair Calvert, CEO of Clarion Gramercy, the European division of New York-based real estate investment firm Clarion Partners.
“It’s a nice kicker to have the extreme-low interest rate environment to be operating in and it would imply that yields would have further to fall,” he said.
Calvert said it’s also helped to fuel demand for high-yielding asset classes like logistics in Europe, a property type whose growth has yet to catch up to its counterpart in the U.S.
“It’s highly competitive and we’re still working very, very hard to find value,” said Calvert, whose firm is focusing on investing in these assets in places like Germany and France.
Many European lenders remain conservative when it comes to underwriting deals, said Francis Greenburger, chairman of Time Equities. But for U.S. investors, the lower interest rates make it easier to tolerate a smaller return in the short term if there is greater upside later.
For example, Greenburger said his firm is in the process of closing on an office building in Holland at a 4 percent cap rate — normally too low for his firm to stomach in the U.S. But once Time Equities finishes its redevelopment of the building, Greenburger said it should be worth an 8 percent cap rate. Factoring in an interest rate between 1.5 and 3.0 percent creates positive leverage, and “it makes [the deal] more tolerable,” he said.
Even though there has been some political pressure for the U.S. to slash its already low rates to below zero, that’s a practice that economists say the Federal Reserve is unlikely to implement any time soon — unless there is another recession.
“Negative interest rates are harmful to the financial sector and really impair the ability of the economy to grow,” Fratantoni said.
Write to Mary Diduch at email@example.com
Correction: An earlier version of this report misspelled Francis Greenburger’s name.