Capital Flows: A year when borders were breached

On these pages and in the features that follow, we discover where real estate capital is coming from and where it is going. One resounding conclusion: never before has it been so mobile. Andy Thomson reports.

The increasing flow of people across borders in Europe has become a topic of heated political debate in recent months and years. The trend is mirrored, albeit without the same controversy, when it comes to real estate capital.

In its Global Capital Trends report for 2015, Real Capital Analytics discovered that Europe saw increasing cross-border investment last year. Moreover, of the total amount invested during the year, only 48 percent was made by domestic investors. Significantly, this was the first time since the pre-Crisis year of 2007 that domestic investment within Europe fell below the 50 percent mark.

Cross-border capital dominates EuropeIn the Crisis year of 2008, almost 80 percent of deals in Europe involved a European buyer and seller. As the chart below right shows, this percentage has fallen steadily since then. One of the questions being asked by market participants today is whether domestic investors are being locked out of their own, increasingly expensive, home markets. Certainly, the appetite from other parts of the world for European assets is strong and growing stronger – with the percentage of “rest of the world” buyers more or less doubling from 2008 to 2015.

So where exactly is the appetite for European assets coming from? In conversation with Real Estate Capital, Andy Rofe and Kim Politzer – managing director of Europe and director of research, Europe, respectively at Invesco Real Estate – outlined three major sources of capital flow into Europe:

1. North America to Europe: Rofe says that a “sizeable amount” has been flowing from North America into Europe, a trend that the firm began to see around 18 months ago. “The US market is further through the cycle than us [Europe] and we still offer good returns across the spectrum,” he says.

He adds that the UK’s Private Residential Sector (PRS) is a particular draw. “Obviously, they [US investors] are very familiar with it from their home market and see it developing strongly in the UK – they are comfortable with the managers and the sector and they see it as an easy route to follow.”

Circa 50% of deals in Europe involve non-euro player

2. Australia to Europe: According to Politzer, Australia’s superannuation (super) funds are now spreading their wings globally, with European opportunities likely to be on the radar over the next two or three years. “They have been relatively quiet but that’s starting to change. They’re finding their markets are getting more and more competitive as investors head to Australia and they’ve now got the size and scale to diversify outside,” she says.

As the supers take their first steps into Europe, they are likely to focus on the core and core plus ends of the spectrum rather than opportunistic. Having seen a number of them migrate already, Politzer thinks “a larger number will follow quite quickly”.

3. Asia to Europe: Nothing has attracted quite so much excited talk as the migration of capital from Asia, and especially China, into Europe. But maybe that talk is set to become a little more muted. The question appears to be whether Europe can deliver enough opportunities to meet the return expectation that these investors have.

Asian capital outflowsSays Politzer: “I was in Beijing at the beginning of the year and the interest in Europe was still there but there are concerns over the ability to achieve the returns in Europe that they need from core offerings.”

However, while Europe has perhaps moved slightly down Asian investors’ priority list, this needs to be viewed in the context of an enormous outflow of capital from Asia to the West due to the volatile macroeconomic situation and consequent flight to the safe havens of the ‘old world’.

The US is looking particularly attractive, thanks in part to a perceived easing of regulatory restrictions.

“The Foreign Investment in Real Property Tax Act (FIRPTA) is being slowly repealed to get more foreign investment into infrastructure and real estate,” says Simon Mallinson, executive managing director at Real Capital Analytics.

He adds: “The US tax regime is certainly now perceived as fairer than it was, particularly compared to European markets. Effectively, FIRPTA represented a tax at exit and more investors are now gambling that it will be fully resolved by the time it comes to sell.”

Among those gamblers, many appear to have their roots in Singapore. While the world’s biggest real estate capital flow in 2015 was that from the US to the UK, the flow of capital from Singapore to the US moved up to second from 24th. As Singapore toys with a technical recession, investors are not overly keen – to put it mildly – to have too much exposure to the domestic market