Going mad for the hysteria

Panic has brought an abrupt halt to the credit markets. But this hysteria is a good thing. By Robin Marriott

Bankers across Europe are reporting concern at the credit crunch afflicting the region's real estate markets. Emotions surrounding this crunch are such that Bernd Knobloch, chief executive of European real estate lender Eurohypo, has called the turbulence on the finance markets “amazing hysteria.”

But the hysterical situation should amount to a good thing for private equity real estate, because it favors groups with both equity and experience. All of a sudden, the subprime crisis in the US has led to large property deals in Europe failing to get done because buyers cannot finance acquisitions on debt terms like they used to. Deals are falling through or prices are getting negotiated down as a result of lenders closing their lending lines. No one knows how long it will last, but the vast amounts of paper yet to be sold to investors suggests several months at the very least.

Think of recent events as something akin to a street filled with hawkers of cheap goods. Outside the reputable shops stand lenders who have set up stalls offering unfeasibly cheap debt. On one side of the street are the US hawkers, and on the other side are the Europeans, who, having seen the brisk business across the way, have been happy to copy the business plan. Real estate borrowers who might have gone into the more reputable shops have instead been snapping up the cheap debt sold out of suitcases. But now concern over the toxicity of the product has caused the shoppers to suddenly flee, and forced the hawkers to shut their cases and vanish.

Contrary to what you might expect of leveraged buyers, the GPs of European private equity real estate firms are not bemoaning the situation but rather welcoming the uncluttered streets.

What they are saying is that, while the rising cost of borrowing is not great news for them, the upside is that fewer debt buyers should play into the hands of those who have equity, but who do not have a requirement to leverage so aggressively.

“The days of golden leverage are over,” says Philip Barrett, the European head of Pramerica's operation. “But we are quite looking forward to this part of the cycle where the private equity component of a deal becomes more important.”

According to market insiders, one area in which equity-heavy GPs may gain an advantage is development, where up until now funds have had to compete with pure development companies, which have had access to cheap debt.

Another bright spot for GPs in a post-credit crunch world might be the UK market, where prices fell in July for secondary retail and industrial property, according to the Investment Property Databank. Buyers that relied almost solely on debt could find themselves in trouble while falling demand in these sectors will presumably force values down further.

Alex Jeffrey, managing director of Macquarie Global Property Advisors in London, says the firm is waiting for opportunities: “There was some downward pricing pressure in the UK even before the events in the debt markets,” he said. “We felt there was going to be a potential correction.”

Another advisor told Private Equity Real Estate magazine that clients hitherto interested in pure real estate are now talking about non-performing loans as a possibility.

But there is another reason why the present flux is good for private equity real estate. For the last few years, just about anyone has been able to make money from real estate in Europe. The availability of cheap debt and cap rate compression has artificially inflated returns. For those on the fundraising trial, LPs will now be looking further back than just their previous fund's performance. This will surely separate the men from the boys.

So long as the hysteria does not knock the fundamentals of all real estate across the region and the cost of borrowing adjusts sensibly, the message is clear. To borrow a phrase from Manchester's clubbers, the good private equity real estate funds should be going “mad for the hysteria.”

ProLogis raises €3bn for European logistics
ProLogis European Properties Fund II has raised €3 billion ($4 billion) in equity, for a total investment capacity of up to €7.5 billion. The vehicle is the second Europe-focused fund for the Denver-based industrial REIT: ProLogis European Properties, its first European fund, was created in 1999 and has approximately 62 million square feet of industrial property in 11 countries. Investors in the new European fund include ProLogis European Properties, which is contributing €900 million in quarterly instalments to the open-ended vehicle; the CPP Investment Board, which invests the assets of the Canada Pension Plan; and an affiliate of GIC Real Estate, the real estate investment arm of the Government of Singapore.

RREEF raises €2bn for European infrastructure
RREEF Infrastructure, part of RREEF Alternative Investments, the global alternative investment management business of Deutsche Bank's Asset Management division, has held the final close of its Pan-European Infrastructure Fund with total commitments in excess of €2 billion ($2.7 billion). The fund is targeting mainly mature assets and has attracted 40 investors, a quarter of which are from Europe, according to a statement. The fund held a first close on €556 million in August of last year and has since invested in a 49.9 percent stake in privately owned British company Peel Ports; a 48.6 percent stake in German motorway service operator Tank & Rast; and a toll road in Vienna.

Pirelli increases stake in RE subsidiary
Italy's Pirelli and Company has bought €34.4 million ($47.2 million) worth of shares in real estate subsidiary Pirelli RE, effectively increasing its stake to 52.3 percent. The purchase totalled 859,741 shares. According to press reports, Pirelli said it saw the transaction as an opportunity to take advantage of an atmosphere in which stock performance of companies in the sector is lower than analysts' valuations. The announcement follows a spate of property acquisitions by the real estate firm. Over the summer, Pirelli RE and Deutsche Bank's RREEF announced its acquisition of German residential property group BauBeCon from New York private investment firm Cerberus Capital Management for €1.6 billion.

Spanish firms targets Romania
Spanish private equity firm GED and Spanish bank Caja Madrid launched GED Real Estate Eastern Investments with initial capital of €25 million ($34 million). The investment vehicle will have a lifespan of ten years and will invest in 10 to 15 projects, each between €5 million and €15 million. The fund's focus will be Romania, but it is also looking to invest in Bulgaria and neighboring Central and Eastern European countries. The real estate market in Romania has been bolstered by economic and legal changes taking place in the country since it became a member of the European Union. Other newly established funds targeting investments in the region include Athens-based South Eastern Continent Unique Real Estate, which raised €50 million in its final close over the summer.