This year’s MIPIM was good fun, as always. Nearly anybody we wanted to talk to was there, and most seemed to have time for a chat. We found the pace of the fair agreeable, and highly hospitable in a manner much less frenetic than in earlier years. We attended a wide range of pre-selected events, had plenty of our own appointments, and there still seemed to be enough time for spontaneous, unplanned gatherings, leading to new faces and ideas. Call it serendipity if you wish - we always associate it with Cannes, and it was there in plenty this year.
Even the entertainment was low-key, in keeping with the buttoned-down tenor of the industry these days. Only the lawyers seemed to have no qualms about making a late-night splash on their harbour-side motor yachts, or in Cannes’ better class of hotel – but then, it’s good to be the winners, whether the market is leveraging up, or trying to negotiate its way out of a lost cause. Somebody has to salvage the MIPIM’s reputation as a glamour event, after all – now that the Russians no longer appear quite so keen to entertain all and sundry, and Europe’s now-nationalised banks have to be seen to be acting suitably chastened.
Back here in Germany, the first quarter has seen the highest level of new investment in two years. Berlin, Hamburg, Cologne and Munich have leapt out of the starting blocks, trailed by a rather more subdued Frankfurt and Düsseldorf – but the news from all the property brokers is the same cheerful good tidings, amid cau tious talk of even rosier prospects ahead.
A handful of major deals obviously played a big role in the early-year figures, such as Corio’s takeover of fellow Dutch investor Multi’s German retail assets, and the sale of three big Berlin shopping centres. But anecdotal evidence (as well as frontline reports from the big broker groups) suggest renewed interest from UK and US investors in Germany, as well as Asian and Middle Eastern sovereign funds, with first deals from the latter groups imminent. Overheating demand for London property also seems to be diverting attention to the German occupier market, as well as the well-publicised woes of the German retail sector, which may see some prime city-centre properties such as Woolworth and Karstadt soon coming up for grabs.
That’s the good news. However, with the bonhomie of Cannes now but a fading memory, we remain fixated on the commercial property debt problem looming in Europe, particularly in the UK and Germany. These two markets experienced the highest lever age in the final boom years, and together account for nearly 60% of the almost €1 trillion debt outstanding, at least a quarter of which is potentially distressed. Much of it is secured at high LTV’s on poor quality real estate, and nearly half of all the debt on this is maturing by the end of 2012. These are really scary numbers, and frankly, they scare the bejaysus out of us.
We shudder (metaphorically speaking, of course) when we talk to yet another equity-rich investor who is purely focused on core properties in central business districts, with blue-chip tenants of superior provenance, and water-tight long-term lease agreements, etc.…Just how many of these magical properties can there be, at affordable prices? Is this what the entire market has come to consist of, we ask ourselves? The big lending banks have major exposure to secondary offices and shopping centres outside the biggest cities – and with all the potential buyers expressing interest only in the top percentile of the market, it’s clear that asset sales be low this exalted level are going to be difficult without major further impairment. A ten-year unwinding period is still our best assessment of what lies ahead for the markets at large.
Not appealing, we admit. But whatever different approach bank lenders are taking to recouping value in different European countries, whether out-placing loans to a ‘bad bank’, or introducing special servicing to their relationships with asset managers and capital providers, the banks still have to manage the flow of assets back on to the market over the long term. The fall-out will be a large pool of secondary and tertiary quality property that will never recover materially in value. The best course of action for the lender is euthanasia – foreclose, take the hit, and recycle any proceeds back into the business. Will this happen? We hope so, and the sooner the better. We’re obviously not there yet.
It seems clear to us that spending cuts, both by governments and businesses, will shape the landscape in Germany and else where for the coming years, and this will inevitably exert further downward pressure on commercial rents. We think it’s highly likely, too, that the divergence between Ger man and neighbouring markets’ allocation of space per employee will narrow significantly. German office workers may not like having to make do with less than 23 sq.m. per office worker, compared to about 8-10 sq.m in the UK, but we talk to a lot of employers – and we know they are determined to make more efficient use of their office space.
This augurs well for cost improvements, but not for any imminent lowering of the vacancy rates in Germany’s major office centres. For investors, selectivity and market timing will be key. More and more we are seeing liquidity replacing pricing as the main indicator of real estate risk; with plentiful capital still available for investment, but the markets infected by risk phobia. As the markets slowly loosen up, new, smart money is looking to replace older investors in Germany, whose hands are likely to be forced soon enough. There will be winners – but plenty of losers.
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