South Korean institutional investors, one of aggressive cross-border buyers of US and European real estate in recent years, are quickly shifting toward non-UK European commercial real estate away from US properties, on expectations of better yields and further asset price gains driven by prolonged low interest rates in the continent.
Deepening competition and rising valuations in Europe’s real estate and the sliding won could lower expected returns from European properties, which are currently around 7~8% a year, amid political uncertainty ahead of key elections in 2017. But Korean asset owners are likely to continue their push into European real estate, excluding the UK, on the quest for safe-haven investment and steady income stream.
In comparison, their buying spree in US properties is fizzling out as fast US mortgage rate rises in the wake of the election of Donald Trump and the Fed’s rate hike late last year has lifted borrowing costs. Sharp price increases in US real estate also weigh on investors.
It is also known that South Korean savings funds and insurers were recently presented with three to four other property investments in Europe which lures investors with tight supply and low vacancy rates in office buildings.
LEVERAGE EFFECT, SWAP PREMIUM
The interest rate differential between Europe and South Korea will boost investment returns thanks to the leverage effect, or the difference between borrowing costs and returns on assets, for Korean buyers who finance a chunk of offshore property deals through loans.
Cross-currency swap premiums paid to Korean investors will also rise because of the interest rate disparity.The European Central Bank has kept rates on hold at zero and prolonged its quantitative easing program, while South Korea’s policy rate has been steady at 1.25% since a quarter-point raise in June 2016.
“For example, assuming that we borrow 100 million euros in Europe to buy 200-million-euro property for a period of five years, we can expect to earn 6~7% annual returns. Reflecting swap premiums, the expected returns will rise to 7~8% a year,” said a Korea Investment & Securities source.
The move of European headquarters of global companies after the Brexit vote to Berlin, Frankfurt, Paris, Brussels or Amsterdam is another appealing factor for non-UK real estate, fanning expectations of asset price increases in those cities.
“When interest rates rise, building prices tend to be lower. But the interest rate changes are not reflected in the current prices,” said a domestic brokerage’s alternative investment team official. “Thus, the atmosphere among local institutions is let’s wait and see for the time being.”
Meanwhile, a top Korean insurance firm’s chief investment officer voiced concerns about the rush into Europe’s real estate.
“Political uncertainty remains huge in Europe, not only because of the Brexit, but also ahead of a series of elections scheduled for this year, including the presidential election in France (April) and one in Germany (October),” the CIO told the Korea Economic Daily. “Swap premiums, which take the bulk of investment returns, are very volatile, so they need to be viewed as a risk factor, rather than an advantage.”
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