European property ETFs continue to outperform in 2015

Jul 21st, 2015 | By | Category: Alternatives / Multi-Asset

Investors are continuing to favour exchange-traded funds tracking European property over US-based property exposures, as the market prepares for a rate hike in the US which would increase the cost of leverage for Real Estate Investment Trusts (REITS) in that market.

Funds following European property markets have enjoyed a strong upswing since October 2014. Specifically, the iShares European Property Yield UCITS ETF (IPRP), which tracks REITs in developed European countries excluding the UK, posted a gain of 25.3% from 1st October 2014 to end of April 2015. Similarly the iShares Stoxx Europe 600 Real Estate UCITS ETF (EXI5), which tracks REITs and property companies in developed European countries including the UK, returned 25.2% over the same period.

European Property ETFs continue to outperform in 2015

European property ETFs have proven to be a sound bet for investors in 2015

Growth of property prices in the Eurozone averaged 16% over the 12 months to April, while prices in the UK market surged 26% over the same period. The bullish trend was also widely dispersed around the continent with an increase in activity outside of the main continental markets of France and Germany. Further to this, some of the largest gains in national real-estate indices for the first quarter 2015 were seen from Romania (up 4.1%), Sweden (up 3.9%), Hungary (up 3.7%) and Denmark (up 3.5%).

Both ETFs lost some ground on the back of uncertainty caused by the Greek debt crisis. However, as the markets became confident of a likely deal being forged between Greece and its creditors, the ETFs have broken through recent short-term trading bounds and reverted to their upwards trend.

So where is future growth in Europe likely to come from?

Although, of course, past performance is no guarantee of future returns, many of the peripheral European countries performed well during the upturn year-on-year to April. Leading the bullish trend was Ireland with growth of 16.8%, followed by Sweden at 11.6% and Hungary at 9.7%. UK property also did well with average prices rising 8.5%. Some countries did buck this trend, dampening the total growth for European property over this time frame. These included Latvia where prices were down 5.8%, followed by Italy down 3.3%, France down 1.6% and Slovenia down 1.4%. Ireland, who recorded the largest growth in prices over the year to April, actually saw deflation in real estate prices during the first quarter of 2015, sending a warning sign to investors that the market there may have been overheating (Eurostat data).

Investors looking to invest broadly in continental Europe may consider the iShares European Property Yield UCITS ETF (IPRP). The fund tracks the performance of the FTSE EPRA/NAREIT Developed Europe ex UK Dividend+ Index, replicating the return of listed real estate companies and Real Estate Investment Trusts (REITS) based in Europe but excluding the UK market. The fund is up 9.5% over the past year. The ETF only invests in property funds that have a forward dividend yield of at least 2% (the current dividend yield is actually 3.7%). The largest sector exposures are currently real estate holding and development companies (48.9%), retail REITs (34.1%) and industrial and office REITs (14.7%). Geographically, the fund is exposed mainly towards France (38.1%), Germany (27.5%), and Switzerland (9.7%). The total expense ratio (TER) of the fund is 0.4%. The fund also has an 8.6% exposure to Sweden, which has been at the vanguard of the recent bullish trend.

Investors may wish to consider a less concentrated geographic weighting, given that French real estate has experienced slight reversals in price over the past year and Swiss property dynamics have caused prices to fall sharply in recent months. Specifically, the revaluation of the Swiss franc in January has been weighing on valuations. The immediate decrease in demand from foreign buyers, coupled with a gradual decline in demand from local buyers due to a weakening economy precipitated from a loss of export competitiveness, will continue to put deflationary pressures on house prices in this market.

Indeed, the UBS SXI Real Estate ETF (SRFCHA), a SIX-listed fund tracking REITs invested solely in Switzerland, had enjoyed a strong rally since December 2013, growing 15.8% to January 2015 where upon the Swiss franc revaluation, it experienced a sharper increase in value, growing a further 9.3% to the end of February 2015. After a brief sideways shift, the price has fallen 6.3%, ending a 14-month rally. The reversal of fortunes for this fund reflects the fact that the dynamics of the Swiss real estate market have changed.

For a more varied country mix, investors could look at the iShares Stoxx Europe 600 Real Estate UCITS ETF (EXI5), which tracks the STOXX Europe 600 Real Estate Index and has reduced exposure to France (27.4%) and Switzerland (5.7%). There is also less exposure to Sweden (2.9%), though, which may cause the investor to miss out on decent returns should the housing trends in the Nordic country continue. Consideration must also be given to the large UK weighting (41.2%).

When analysing the property market in the UK, Nigel Almond, head of capital markets research at DTZ, notes the considerable differences in prices between London and the rest of the UK. Specifically, London is currently valued around 25% above the high of the previous investment cycle, while European property is on average 14% lower. “Despite this, relative to other assets, central London offices still look attractive, especially to overseas investors where pricing remains competitive in what is the most liquid market globally.”

As business grows in the city, there should be an ever greater demand for retail outlets, warehouses and offices. London may still offer value to the REIT investor. Meanwhile, property investment activity outside of London is still 20% below the peak of the market in 2007, suggesting that the regions could deliver value to investors in coming years.

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