［ 第 １０６回 講 演 録 ］

Real Estate:Information,Indices and Benchmarks
ＩＮＶＥＳＴＭＥＮＴ ＰＲＯＰＥＲＴＹ ＤＡＴＡＢＡＮＫ
Ｃｈａｉｒｍａｎ Ｒｕｐｅｒｔ Ｎａｂａｒｒｏ■Introduction

I want, in the next hour, is to talk about theenormous changes in the way that property isowned and managed as an investment thathave taken place in the last 20 years in many
developed countries. Property as an asset class
has moved ever closer to equity and bondmarkets in the way it operates. The extent ofthese movements has been evident in the verystrong real estate markets that we have seen
recently. The movements taking place in the
US and Europe are certainly taking place inJapan and demand the same kind of
information support as have been developed forother markets. I will talk a little of the types of
information that are available about theproperty market and about property portfolios
in other countries and will illustrate some of theuses to which this information is put.
My presentation is very long and I cannot
talk about all of it. So I hope that you findsome of the slides interesting and will be to lookat them outside this meeting. All the slides aresupported by wider papers which I can makeavailable to you separately if you want them.

■The UK of the 1980s
I first came into real estate industry in the
United Kingdom in the early 80’s, having
practiced as a professional economist. The

United Kingdom has had a Funded Pension
Scheme for many years and pension andinsurance companies have been investing in realestate from at least the early 1970s. The
government encouraged pension funds to buy
property after the real estate crisis of 1974.
Many investment managers looked to realestate as an inflation hedge in the 1970s whenthe British economy was in a bad way andincreased their allocations. This movement was
greatly aided by the “invention” of the long leaseback in the 1960s which passed on much of the
management headache of property to theoccupier; and offered the owner long term
security of income.
The market in which institutional investors
were placing their funds in the early 1980s was
exclusively national. No investment was taking
place outside the United Kingdom; and there
was no sign of foreign investors trying to buy
buildings in Britain. The range of choice ofinvestors was narrow. They mostly bought
offices, which accounted for 60% of portfolios;
and they invested largely in the City of London
and West End London markets. They werebuying large blocks of real estate rented toleading companies with secure leases. The
market was dominated by the institutions, andthe strength of their cash inflows meant thatthey very rarely used debt.
The quoted
property companies were finding it difficult toraise finance and they were effectively inactivefrom the late 1960’s until the late 1980’s.

Thus, the UK at the time had a verystraight-forward market in which institutions
were dominant and owned a limited range of
secure real estate. IPD assembled information
about these assets to produce its first indices……and these indices proved valuable inhelping asset allocation decisions.

■But has changed beyond recognition
Enormous changes have taken place overthe last 20 years. Many of the same owners,
especially the big insurance companies andpension funds, and long established quoted
property companies, are still important in themarket. But the market is very much larger:
ownership by the financial institutions of property was £35bn in 1985 but is now £150bn. New
owners have come into the market in a big way,especially retail investors; there are many funds
for wealthy individuals; and many international
investors.
Investors own a wider range of assets thanpreviously. Retail property now accounts formore than 50% of all holdings and “new”
property types have been absorbed into property
portfolios – including retail parks, businessparks; leisure properties; hotels and the like.
London now accounts for less than 20% of all
portfolio investment held by domestic investors.

■Reasons for the change: in Europe
The market has become truly international,
and this has been welcomed. The presence ofinternational investors meant that the impact ofthe ‘90s property crash on the economy was lessin the UK than elsewhere in Europe. The fundmanagement industry which looks after
commercial real estate has also changed. In
the mid 1980s there were some 400 funds run
by some 300 separate property managers. Now
there are 20 fund managers who look after morethan 75% of all the assets recorded in IPD’s
London database…..property ownership andproperty investment management have largely
been separated. The investment managers
come from a number of backgrounds:- Equity fund managers have built up
specialist real estate departments.
These include Henderson and Schroders
and Merrill Lynch.
Property managers who themselves
looked after big portfolios for their parent
companies have started to provide asimilar service to third parties. Thus,
the largest fund manager in the UK is
the Prudential with some £20 billion
under management and many third
party accounts. Similarly, Standard Life
and AXA have become important
property managers.
- And listed property companies have
moved towards providing specialist fundmanagement services, offering theirexpertise and entrepreneurial flare toother “passive” investors….for a fee.
The internal organisation of these new fundmanagers is modelled on that of an equity
manager with designated fund managers
responsible for each fund. Each manager
follows a strategy with a planned process.
Returns are monitored closely with reports
going to investors quarterly. They take theirreward in part from their success.
There is an increasing trend for pension
funds to invest in multi-investor funds, andthese are conceived, marketed, and monitored ina regulatory framework and are relativelytransparent.

■And the US influence
While the domestic investment markets in
Europe were changing they were also heavily
influenced by the major US investment banks,
who sent teams to Europe in the mid 1990s andtook very large positions in the crashed out
property markets of France and Italy– fromwhich they made very large profits. These
profits were in turn used to justify setting up
Opportunity Funds which raised large sums
from US pension funds. When the investmentbanks arrived in London they brought withthem other new techniques, particularly withregard to debt and debt securitisation, andfurther widened the range of financing options
available in the property investment market.
The investment banks started by being mostinterested in Europe, but moved much of theirfocus onto Asia in the late 90s.

■Most European and North American real estatemarkets are now
Trends pioneered in the UK and US havespread pretty rapidly in the last 10 years.
Markets are now much more liquid throughout
Europe. There have been big increases ininternational and cross-border investment.
Professional approaches to property fundmanagement have spread widely. Markets are
more transparent.
And, importantly, they
support much higher levels of real estate activity.
I will show you slides to illustrate each of thesepoints.
Liquidity is clearly extremely important forinvestors. Whereas the level of turnover (sales
and purchases as a proportion of fund size) has
increased in the UK from around 10% to over
20% in the last 15 years; much more dramaticincreases have been seen in other European
countries.
The scale of international investment has
also increased enormously. It is probable that
20% of the London and Paris office markets are
now owned by non local investors. The flow ofcross-border property investment in Europe hasreached around €40 million per annum which isaround 40% of all investment. The markets

that have been the most important recipients –UK, France, and Sweden – have benefited interms of reduced yields, increased development
activity, and a wider range of available stock.
Investment in other markets, which are often
perceived as illiquid or poorly informed (mostnotably Italy and Eastern Europe) has beenmuch less and at rather higher projected rates ofreturn.
However, the most obvious effect of theprofessionalisation of the market has been thegrowth of non-listed property vehicles. A sector
which was valued at approximately €20 billion
in 1996, when there were some 100
co-investment vehicles on offer; has grown to
one with nearly €150 billion of investment insome 450 vehicles in 2004. These vehicles offer awide range of product and risk exposure. Someare effectively joint ventures between large
existing real estate investors. At the other end,
however, are partnerships which allow smaller
pension funds and wealthy individuals to invest
in some of the largest shopping centres;
specialist areas of the real estate market; andemerging areas of Eastern Europe and Southern
Europe.

■Property is Becoming More Liquid
A market which is larger, more diversified,and more liquid has called for much higher
levels of transparency. This has been met in a
number of different ways.
Two organisations in Europe haveestablished a Europe-wide base to look atquoted and non-listed real estate vehicles –EPRA and INREV. Both organisations are
based in Amsterdam and have concentrated
their attention on standardised reporting, bestpractice, and transparent reporting of management costs. They have both created an index ofmarket performance for the investment vehicles
that they cover.

Similar types of property indices areavailable to property investors in both Europe
and the US. At a basic level investors want tounderstand the changes that are taking place inthe markets. IPD has developed its databanksof the direct property holdings of all major
investors which allows changes in capital values,
net incomes, market rents and total returns to
be monitored at a national, sector and regional
level. Last year IPD produced indices for 14
countries, and provisional statistics for Italy andJapan where our samples are still small. In the
US we produce benchmark reports for the major
funds, utilising the NCREIF data and working
closely with NCREIF.
IPD also provides benchmarks to investors
to show how they performed, including theirtransaction and development activity. These are
the portfolio benchmarks which I will talk more
about later.
More recently with the emergence of theprivate funds and indirect vehicles IPD has beenmonitoring the return on net asset value ofthese investment funds. And of course listedcompanies are monitored by stock market
indices which also include the new REIT
vehicles.

■Japan is not an island!
This is all that I want to say about changes
in the European markets that have taken placeand in the second part of my speech I would liketo switch my attention to Japan.
I think it is evident that enormous changes
are taking place in the way that the property
market works in this country. First there is theincrease in the size of the investment market as
many buildings pass out of the ownership ofeither corporates or banks into the hands ofprofessional investors.
There appears to be a large latent demandfor property from both insurance companies andpension funds for the first time for a number ofyears. Property is being treated as a financial
asset in which both the income and the capitalvalue are important. The launch of the JREITs
has been successful and has brought retailinvestors into the market for the firsttime….and there is strong international interest
in investing in Japanese real estate market.
Growing investment market scale; theinterest of the institutions; securitisation; andinternationalisation; are all trends that are happening also in European and North American
markets.

■Japanese information requirements similar
to other countries
They all suggest the need for better information…..for the long term savings industry; inorder to understand the market better; toprovide tools for the financial analysis of realestate…and to make sure that the new foundinterest in real estate spreads to all parts of themarket and the country…..I will talk about eachof these factors in turn.
First I think it is obvious that a real estate
department of an insurance company or apension fund needs the same quality of information about property as is available for its
equities and bonds. If this information is lacking
property will be treated as a high risk asset on
which the risk premium is higher. Property will
not be the third asset class but will be seen as an‘alternative investment’. Real estate allocationsin institutional portfolios have been increasing
in recent years and now often exceed 10% inWestern Europe.

■Understanding real estate as an investment
asset
I think that there are four aspects of market
information that are essential for the real estate
investor to understand.

The first concerns the nature of the property
market cycle- the historical occurrence of cycles
and econometric analysis concerning theircauses and duration.
I think we can all describe the sequence of aproperty cycle…from the recovery phase;through the start of an interest in development
and the increase in bank lending; to the rapid
increase of rents as vacancies become rare but
new buildings are not yet available; and thenthe building boom which lags the demand cycle,
overshoots and pushes the market into
recession.
This is what the cycle looks like in the UK
over the last 30 years…three booms; three large
scale recessions. You can see how rental
growth is triggered by the upturn of economic
activity….how rents tend to lag this upturn….
and the trend of building orders. While therecent trend has been more benign no one
believes that the cycle has gone away.
The pattern of returns is rather different
between countries, from a low of 6.4% in France
over the last 17 years to a high of nearly 15% in
Ireland. But the basic relationships seem
similar in each country. The economy is theprimary driver of the cycle. Returns are only
weakly linked to inflation. And property is only
weakly linked with other financial markets■How accurate are valuations?
I will now turn to the topic of valuations….
this is of great importance to real estate
investors as there are insufficient transactions
to measure capital value performance as would
be normal for the stock market. Are valuations
accurate?
A great deal of research has been carried out by
IPD on this issue in many countries. In broad
terms the correlation between transaction priceand previous valuation is good…….regression
results of .95 and higher are not unusual……
and the range of valuations around the medianis relatively narrow
We can see too how this range has tended tonarrow over the years…again a result common
to many countries and suggesting that investment valuations are improving over time. We
have not yet got sufficient data about Japan toundertake this type of analysis but will carry it
out possible….and feed the results back toappraisers.

■Understanding property income
Property investment is typically for the longterm especially as the transaction costs are sohigh….in these circumstances the pattern of theincome that is received is very important. Is it
secure? When is the income flow threatened?
What happens if a tenant quits? IPD holds
information in confidence about all lease
contracts and these can be analysed…thefigures are for the United Kingdom. Around
one-third of tenants renew their contracts……
and there is an immediate re-letting on manyother buildings and this often results in a rent
increase. But if the space is not immediately
released the vacancy period can be long….averaging 15 months. But the actual loss of income
from business failures is very slight indeed.
These statistics allow property owners tounderstand the pattern of their future cash
flows, and the probability of certain outcomeswhen a lease event occurs…they also give asecure base for valuation assumptions. As you
might expect there are very big variations inthese figures between property types anddifferent areas of the country.
Property owners also need to understandthe pattern of obsolescence on their buildingshow quickly will the ability of the investment tocapture market rent continue; how much capital
expenditure will be needed on the building. We
have undertaken very detailed studies which
compare the capital value of new and older

buildings and show how obsolescence affects
building value over time.
Offices show much higher rates of obsolescencethan retail properties and some of the newer
investment categories such as retail warehouses
and hotels also suffer rapid depreciation. We
have shown how important it is that REITs
distribution policies do make adequate provison
for depreciation.

■Depreciation and Obsolescence in property
portfolios
The information I have discussed above
concerns the development of a better understanding of the real estate market, much ofwhich has been aided by the IPD statistics.
Investors also need more sophisticated financial
information to help them mange their portfolios
I have produced slides in the pack thatcover use of IPD data for asset allocation
decisions; for benchmarks; for comparative
pricing; and to act as the base of a derivatives
market which is just starting to emerge.
You can compare the return on direct
property to that of gilts and equities over a long
period of time…and track the volatility and risk
measure. You can then build a correlation
matrix, covering different periods. Property
returns have been strong recently, but over thelong term they have fallen between the level ofreturns of equities and those of bonds. Theyshow low correlations with either of the othertwo asset classes and have useful portfolio
diversification characteristics.

■Managers and Investors Need Benchmarks
Managers need benchmarks to help themunderstand their portfolios, to compare them tothe returns of other investors and to present
their results to investors……

Benchmarks cover the components ofreturn in the portfolio but also other aspects
such as vacancies and management costs. They
can start either from the direct assets held in
the portfolio and work upwards- through theindirect holdings, the loans, and the
management costs…up to the level of the total
return of the fund as received by an investor. Or
we can work top down from the shareholder
return to the level of the asset return.
We have developed many analytic techniques to aid this process, which turn on thequestion of where the returns come from….how
has it achieved its returns; were these returns
consistent with its stated style; were the returns
expected or not. In essence we need to try andunderstand if the manager was skilled…..or justlucky!
Investment is about choice and international investors want to be able to compare thereturns from different markets…most especiallythe new fund management groups who areestablishing global distribution networks andglobal funds.
We do now have statistics for Japanese
returns for the last year. However the sample onwhich they are based remains very small
compared to the size of the market and theirreturns are only provisional, however, in 2003
market values were continuing to decline only
slowly and the income return on the investment
market is not dissimilar to that of other leading
markets.

■Property derivatives….a long time in coming
Finally the IPD index is now very wellestablished in the European markets. As
investors have come to trust it and tounderstand how it works they have started todevelop derivative products on the back of it. A
number of attempts have taken place over thelast ten years, but a small but quite active

market has started to emerge in the last year.
Offering the same kind of investor benefits as
you would expect from managing an equity
portfolio…..a rapid increase or decrease in sector
exposure;risk
diversification;markethedging…there is a very great interest in thesemechanisms which may increase rapidly infuture years. The model of the Barclays contract
is shown in this slide.

Thank you for your attention. We are trying
hard to get an IPD system of analysis in place inJapan and have received great help from agroup of important investors including Nomura,Meiji-Yasuda, Tokyo Fire and Marine…I believethat we can construct a system that will be as
useful as that in the west and we look forward toworking with you
Many thanks■Project financing for cities and regions
Finally the property investment market is a
powerful mechanism which will determine thelevel of development and investment that willtake place in different areas just like a stock
market one of its primary functions is to allocate
flows of new money. Statistics can help the
efficiency of this process, and reduce transaction
costs.
I would like to give you two examples of this inactionReturns to property in Northern Ireland overthe last twenty years have been constantly
superior to those of other regions of the UK
despite the sectartian violence of the area…..
indeed returns on retail properties have been
higher in 19 out of the last 20 years.
We then widened this analysis to take into
account the 10% and 20% of poorest (lowest
income) areas of the UK…and found the same
result: both the rate of rental growth and theabsolute level of yield were high in the poorer
regions, meaning that investors received ahigher return.
Quite simply investors place too much emphasison the appearance and reputation of an areaand do not look carefully enough at theunderlying market statistics…you can often
make better investment returns in poor areas
than in wealthy areas.