New horizons open up for German funds

In April, changes in German law governing the open-ended funds mean that investing in foreign property becomes easier. Which markets will be the winners? Last year German people invested heavily in the country’s heady stock market and cashflows to the open-ended funds dwindled. Their returns of between 3.6% and 5.7% could not compete with equities but with turmoil in world stocks and resurgent real estate markets across Europe, the open-ended funds are back in vogue. Those whose articles of association allow them to invest in other EU property markets have seen massive inflows over the past few weeks. But funds concentrating on the domestic market have proved less attractive with some experiencing outflows. The inflows give the open-ended funds a headache. Investors demand a higher return than the 3% paid if the funds just place the money on deposit. Also, the rules stipulate that they have to have a certain proportion of their assets invested in real estate. But domestic product is scarce and they have been forced to diversify into the wider commercial sectors such as hotels, leisure and multiplex schemes – and to buy more and more foreign property. Last year, the proportion of non-domestic real estate held by the funds rose by 4% to an average of 25% according to Deutsche Bank Research. Which countries will attract the German money now that foreign investment has been made easier? Director in charge of FPDSavills’ Frankfurt office Chris Bull-Diamond, says the obvious place is in their own backyard: “They know it, there are no tax problems and the market is improving. Another favourite has to be the UK; yields are 6.5% in London and many leases run for 25 years with upward-only reviews,” he says. “There is a currency risk, since if interest rates come down the pound falls but the funds can cover that for a year or two. Holland is as favourable in tax terms as the UK, but it is a small market. “Some funds favour Belgium; France is getting overpriced as the French come back in making product scarce and driving yields down to 5.5%. Spain is the same; both these two markets have very little product at sensible prices,” says Bull-Diamond. Additionally, CB Hillier Parker associate Jonathan Hull predicts more purchases in Italy. He also thinks that the greater weight of money will be in the form of direct property purchases. “Funds wanted the flexibility to take smaller stakes in companies,” he says. Eastern Europe is now on the German funds’ shopping list. Last month Despa paid about €25.56m (DM50m) for the 9,000m2 Central Business Centre in Budapest. Despa chief Dr Willi Alda says he is looking for partners to co-invest not only in Hungary but the Czech Republic and Poland too. “We won’t spend huge amounts here but use it for diversification, holding 5-10% of our portfolio in Budapest, Prague and Warsaw,” he adds. For the past nine months Alda has also been looking at Australia, where yields are comparable with Europe, and he is considering Canada. “In the past three years we have spent around €1.3bn (DM2.5bn) on property. Certainly we will spend no less this year and as I expect interest rates to go down it could be more,” he says. DGI managing director Jürgen Wundrack is also a big spender, planning to invest €511m (DM1bn) in property after seeing an inflow so far this year of €440m (DM860m) -compared with €280m (DM547m) in the same period last year. For some funds the new laws may not change much the way they invest. CGI managing director Arnold de Haan says: “We can only take a majority stake in companies and this doesn’t give us the competitive power we would like to have in situations. So I’m not sure if the changes will have a huge impact on our investment philosophy; we are working our way through it with our advisers.” Up to February 18 this year, CGI’s Haus-Invest fund has attracted €158m (DM309m) and de Haan has earmarked up to €1bn (DM2bn) for real estate. Klaus Hohman, managing director Degi, is also ambivalent. “The new law won’t extensively broaden our scope as the basics of the real estate market are still the same – we still have to look at rents and so on in the same way as before. We will think about joint ventures with a local partner. I would have appreciated doing a joint venture in the UK in the past but we weren’t permitted. We only buy direct properties in the UK and this will not change.” He also would like to take a 50:50 position with local partners, believing that having the mandatory majority stake means that most institutions will not be attracted under these conditions. “If I were on the other side I wouldn’t go for it. Our next endeavour is to ask for 50:50,” he says. Meanwhile, Difa managing director Dr Manfred Lohr is waiting to see what the changes will bring to market conditions. “The euro, coupled with the possibility of investing in companies, will certainly boost our ambitions abroad,” he said. What the new law means Up until the beginning of 1999 the German open-ended funds have only been able to invest in direct property but in April the Third Finanzmarktförderungsgesetz (finance enabling law) comes into force. It will open up the foreign playing field for these highly-regulated funds. The new law will allow the funds to buy stakes in real estate companies – provided that they take a majority holding and that the company does not consist of more than three properties. In addition, the value of all the stakes that a fund holds must not exceed 15% of the total volume of the fund. Some of the older funds were restricted to the German or EU real estate markets either by the domestic regulatory bodies or their own articles of association. Not only will the changes in law facilitate investment into other EU countries, they will also allow the funds to invest in countries where they were hitherto prohibited, for example, eastern Europe. But not all the news is good. New tax laws will be promulgated later this year which will take away some of the breaks the funds and their unit holders have enjoyed. It is not yet clear how far-reaching these laws will be as a recent Länder election result could make the more punitive proposals less likely to be ratified by the new coalition government. The most important element is a change to the speculation period. According to Chris Bull-Diamond, director in charge of FPDSavill’s Frankfurt office: “Currently, if you sell investment property after owning it for two years but do not do so on a regular basis – that is, if you do not become a property trader by buying and selling often, then any gain is tax free to a private individual.” The proposal is to extend the two-year period to 10. Bull-Diamond says: “We we don’t know quite what will happen but we assume that the reforms extending the speculation period to ten years will go through, backdated to 1 January of this year.” Open-ended funds’ foreign investments 1998 Fund Manager Country Investment number and type total m2 Haus-Invest CGI UK 8 – offices retail and mixed use 111886 France 1 – offices 27966 Netherlands 13 – offices retail commercial 242502 Portugal 1 – offices and retail 10125 Austria 4 – offices 32514 Sweden 1 – offices 3592 Grundbesitz invest DGI UK 2 – offices 41832 Spain 2 – offices and retail 38594 France 1 – offices 3944 Netherlands 2 – offices and retail 26926 Italy 1 – offices 3700 Grundwert-Fonds DEGI London 4 – offices 39000 Netherlands 16 – offices 187000 USA 1 – offices 25000 DIFA-Fonds Nr 1 DIFA UK 7 – offices 113475 iii-Fonds Nr 3 iii UK 4 – offices warehousing 63807 Switzerland 4 – offices 16000 DespaEuropa DESPA Netherlands 2 – offices 26228 US 2 – offices 50384 UK 4 – offices and retail 64216 Belgium 4 – offices 24447 France 1 – offices 29259 DespaFonds DESPA UK 1 – offices 14173 Open-ended funds at end Q4 1998 Fund Manager Q4 inflow/outflow € (DM) m BfG Immoinvest BfG Immobilien-Invest 187.1 (365.9) Haus-Invest CGI 188.46 (368.6) CS Euroreal CSAM Immo 91.83 (179.6) Grundwert-Fonds Degi 100.52 (196.6) DespaEuropa Despa 1563.79 (3058.5) DespaFonds Despa -117.59 (-234.7) Grundbesitz-invest DGI 304.37 (595.3) DIFA-Fonds Nr1 Difa 155.33 (303.8) DIFA-Grund Difa 247.31 (483.7) HansaImmobilia HansaInvest 4.55 (8.9) iii – Fonds Nr 1iii -453.82 (-887.6) iii – Fonds Nr 2 iii -355.5 (-695.3) iii – Fonds Nr 3 iii 343.38 (671.6) Westinvest 1 Westinvest 68.46 (133.9) Total 2392.13 (4678.6)