In the cheap-money era, a torrent of cash poured into European property funds. But as it gets easier to find decent returns elsewhere, investors are heading for the exits, adding fresh pressure to hard-hit real estate markets. With redemptions mounting, the incentive to sell properties and raise cash to pay out investors promises to bring an end to a standoff that began last year when interest rates spurred buyers to offer lowball prices that sellers weren’t willing to accept. Across Europe, commercial real estate investment plunged 59% in the first half of the year, according to MSCI, and valuations, already down by double digits, face the threat of a new hit as funds start to sell assets.
The dynamic poses a particular threat in France and Germany, where new fund types and rules introduced after the global financial crisis face their first major test. French OPCIs, a type of open-ended fund aimed at retail investors, have hoisted for-sale signs over more than €5 billion ($5.2 billion) of real estate at home and abroad. In Germany, the process is slowed by rules requiring investors to wait a year to get their money back, but the signs of strain can be seen in discounted trading in the funds.
In a sector with €835 billion in assets, any rush to sell would weigh on valuations across the industry and pose a major threat to debt-laden landlords as they bump up against borrowing limits. The risk will be a key topic for investors at this year’s Expo Real property conference in Munich, which kicks off today. “The debt levels of these funds, the discounts that they’re trading at on the secondary markets, they all give a clear indication to what makes sense: Investors are increasingly tempted to redeem,” says Niko Schultz-Suchting, head of the German real estate practice at law firm Freshfields. “That leads to a moment of truth.”
Open-ended funds jumped in popularity when interest rates hit bottom and returns from bonds and traditional savings accounts were anemic. But after 10 rate hikes by the European Central Bank since July 2022, the investment case has flipped. As other investments become more attractive, property prices are falling, tempting some investors to bail before values tumble further. Germany in 2013 imposed tighter rules on redemptions following a spate of liquidations during the global financial crisis. But after Russia’s invasion of Ukraine triggered a real estate bust, inflows have dried up.
The sector’s change in fortune has caught the attention of the ECB, which is concerned about vulnerabilities in the €1 trillion euro-area real estate investment fund market. Controlling about 40% of the region’s commercial property, the funds pose a risk to financial stability, the central bank said in April. “If you get 3%-4% in fixed income, why should you put your money into an open-ended real estate fund?” says Henning Koch, chief executive officer of fund manager Commerz Real AG.
The pressure is evident at UniImmo Global, a fund managed by Union Investment, the asset management arm of Germany’s DZ Bank Group, which is trading at about a 13% discount to the net asset value. Rising debt levels are another indicator of the pressure, with UniImmo Global’s loan-to-value ratio—a measure of the scale of a fund’s debt—climbing to 24.4% through March, from 22.1% a year earlier. The fund recorded net outflows of almost €75 million in 2022, accounting for about 2% of assets—though Union says the tide has turned, and this year it has had inflows of €3.7 million.
Union says the German rules “have provided exactly the right set of instruments” to ensure stability. Falling prices on the secondary market, the firm says, aren’t an indication of investors bailing out, but rather reflect what investors are willing to pay to skirt the new regulations that lock up cash for longer.
Many of the largest German open-ended funds have been around for decades, meaning their portfolios have been assembled gradually. France’s OPCI funds, by contrast, made most of their purchases in recent years when prices were elevated. Opcimmo, a fund established by Amundi SA in 2012, amassed a portfolio that peaked at €8.6 billion in 2020. More than half of that was committed by investors from 2015 to 2017, spurring the company to spend lavishly on purchases such as a deal in which it led a consortium that paid €1.8 billion for Coeur Defense, Europe’s largest office complex.
While some asset managers limited the cash they accepted during the good times so they could invest more effectively, others imposed fewer controls, upping the pressure to deploy capital. Opcimmo’s managers acquired most of the fund’s assets during the boom years, which is now creating a headache. In real estate funds, “distribution is key,” says Isabelle Scemama, global head of Axa IM Alts, the alternative-asset management arm of French insurer Axa SA. “It’s important to manage your inflows so you don’t become a forced purchaser.”
With a sizable chunk of its portfolio in French commercial properties, Opcimmo’s performance has been hit by falling valuations, which have spurred investors to seek other places to park their cash. In Paris, for instance, office values fell about 14% in the year through June, according to BNP Paribas. As redemptions mount and Amundi looks to reduce its exposure to the office sector, it’s working on a slew of sales even as deal volumes slump. In the first half of the year, the firm’s funds put properties valued at €2 billion up for sale and so far has sold just under half that.
With property deals sluggish and regulators pressuring managers to clarify their intentions regarding liquidity controls, Amundi in June introduced new rules laying out when it might restrict the amount of cash investors could withdraw. The firm declined to comment.
Britain offers a cautionary tale for managers on the Continent. Several UK open-ended funds were forced to halt withdrawals in the aftermath of the 2016 Brexit referendum and again during the Covid-19 pandemic. Unlike their French counterparts, UK funds aren’t required to hold a set proportion of liquid assets. And they must allow investors to withdraw funds immediately.
After the shock of the Brexit vote, UK funds were overwhelmed by a sudden spike in withdrawals, and the sector has seen more than £7 billion ($8.5 billion) of net outflows since then, according to fund network Calastone. Property funds in the UK “have been selling snake oil by promising liquidity from an illiquid asset class,” says Jefferies real estate analyst Mike Prew. “And they might be going out of business.”
Source from: Bloomberg