Indirect real estate investments are currently very popular. They benefit from the current financial and capital market turmoil. But in the long term, they are not dissociated from the real economy. New regulatory measures entail additional risks.
Both direct and indirect real estate investments have benefitted from financial and capital market turmoil. Gloomy bond market prospects also contribute to make real estate investments more appealing for risk-shy institutional investors as well as for private investors. Listed real estate companies and real estate funds are especially interesting for investors. Between September 2010 and August 2011, they chalked up total returns of 16.5% and 9.5% respectively. Over the same period, the Swiss Performance Index (SPI) attained a performance of 10%. Indirect real estate investments contribute to improved diversification and yield good returns. In their latest real estate report, Wüest & Partner maintain that, if the financial and capital markets continue to remain volatile as a result of the bank and sovereign debt crisis, indirect real estate investments will profit strongly.
Modest market capitalization conceals investment risks
The authors of the report underscore the fact that indirect real estate investments do involve risks. As soon as stock and bond markets recover sustainably, the funds invested in indirect real estate investments will be withdrawn. Such investments may then come under pressure. The authors argue that, although the absolute volume of indirect real estate investments in Switzerland has increased significantly in recent years, market trends are still influenced by their relatively low market capitalisation. This entails investment risks.
Indirect real estate investments develop in parallel to the real economy
The downturn and its implications for the real economy entail risks both for direct and indirect real estate investments. For both forms of investments, earnings prospects and rental price trends are decisive. According to the authors of the report, this is why indirect real estate investments cannot be dissociated from economic trends.
Regulatory measures could stop the boom
Apart from economic trends, this class of investment is also affected by regulatory measures. Wüest & Partner see new changes in regulations already casting their shadow. These changes concern the domestic mortgage-lending environment on the one hand, and banks' real estate investments on the other. New capital adequacy ratios are expected both for mortgage-backed lending and the balance sheet valuation of banks' real estate investments.
The changes may also affect the accounting principles for real estate investments held by institutional investors (e.g. insurance companies). This applies to valuation procedures. The authors of the report believe investors should follow these developments closely for at least two reasons: firstly, because additional investment costs may be involved and secondly, because they increase the insecurity for the final investor.