NewsLetter Commercial property market commentary
January 2015
NewsLetter Commercial property market commentary
January 2015
Contents The Danish commercial property market 2014 and outlook for 2015
3
Domestic pension funds are skilled and active investors
7
Stronger focus on optimised property utilisation
9
How does low inflation affect the property market?
12
General election 2015 – how will it affect the property market?
15
Property market indicators
16
Reproduction or citation only with express acknowledgement of source
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3 NewsLetter - Commercial property market commentary
January 2015
The Danish commercial property market 2014 and outlook for 2015 In 2014, the aggregate property transaction volume in the domestic market for investment property increased for the third year in a row. Amounting to DKK 30bn in total, the volume recorded in 2014 reflected a more than 40% increase since 2011, when the transaction volume totalled DKK 20.9bn. Still, the 2014 figure fell far short of the 2005-2008 levels, but viewed in a ‘new normal’ context, recent years’ growth is deemed strong and stable.
Demand is mounting In 2014, the demand for investment property surged. Faced with price hikes on stocks and bonds, investors zoomed in on alternative investment opportunities offering attractive and more secure returns. Stock prices in several large markets worldwide, and in Denmark in particular, have soared in recent years, and the price you pay for the earnings of listed companies (P/E ratio) has become quite expensive. Contrary to all predictions at year-start, bond market yields were driven down to new all-time lows in 2014. Whereas in particular short-term yields have been low in recent years, the interest rate curve is now levelling off, and even bonds with 30 years to maturity yield low income return.
As a result, bonds are not very attractive in the current market. This combination is motivating several investor types to zoom in on the property market, serving to boost demand for prime property in particular. Irrespective of downtrend ing yield requirements all through 2014, property continues to produce relative fair income return relative to bonds, and as real property is associated also with low risk, this asset class holds substantial investor appeal. However, the supply of prime investment property was greatly outstripped by demand in 2014. Sadolin & Albæk estimates that demand exceeded actual supply by up to three times. The underlying trends driving the surge in demand are the same as those dampening the propensity to sell. In fact, having divested their properties, sellers are left with limited placement options, and many property owners therefore opt to retain real property assets to benefit from continued income return instead of taking profit.
Focus on prime properties across all segments The breakdown of transaction volume by segment is illustrated in figure 2 overleaf, which shows that three segments, office, retail and residential, each account for about one third.
Figure 1: Aggregate transaction volumes (DKK bn), Danish investment property market 70 60 50 40 30 20 10 0
2004
2005
Source: Sadolin & Albæk
2006
2007
2008
2009
2010
2011
2012
2013
2014
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Thanks to the population growth of several large Danish cities, in particular Copenhagen, residential property is perceived as a very low-risk investment. The demand for housing has been exceptionally strong for years, and in 2014 the prices of both owner-occupied flats (commonhold units) and the market rents of residential rental property surged. Investors therefore have several options when investing in residential property in the so-called ‘new’ housing stock as they may choose to let at market rents or resell at attractive prices, once flats are vacated. This has served to whet the appetite of many investors for residential investment property, the buyers of newly completed housing including both pension funds, property companies and international funds. For many years, pension funds have typically refrained from investing in the so-called ‘old’ housing stock as such investments require highly proactive management strategies. However, this segment attracted mounting demand in 2014. For instance, Sampension has shown an appetite for the segment, investing in a portfolio of six Greater Copenhagen residential properties. In the retail market, Copenhagen high-street properties and a few prime shopping centres were the main drivers of transaction volume in 2014. Strøget in Copenhagen has been an investor magnet for several years now. In 2012 and 2013, value-add investors fronted investment activity in the high-street market, but the competition for highquality investment opportunities has intensified, and in 2014 an increasing number of typical core investors entered the market. The strong demand for high-street proper-
ty has driven down yields to a low of 4.0% on top-quality properties at Strøget. In the past, pension funds in particular were averse to investing in the high-street market, probably because they doubted that the exceptionally high rent levels would last. In 2014, however, both Danica Pension and PFA acquired high-street properties offering value-add potential. Broadly speaking, the office market has been the market preferred by pension funds, and historically they have focused on up-to-date head office properties let on long leases. This has served to sustain a fair transaction volume in this market for several years. In 2014, pension funds again became predominant players in this segment, accounting for 67% of total office property investments. By comparison, pension funds accounted for 15% of retail investments. In 2014, investors proved more risk tolerant in the office market, but secure investments continued to dominate. The joint acquisition of the so-called SAS portfolio by PFA and Thylander Gruppen was an example of a pension fund opting for investment property associated with slightly higher risk than usual. Slow economic growth has fed through to the labour market, causing employment to virtually stagnate. This poses a challenge in the office market, as it curbs the demand for additional office space. In addition, due to the overall vacancy rate of 10% in Greater Copenhagen, investors continue to consider large-scale investments in secondary properties too risky.
Figure 2: Breakdown of transaction volume by property market segment 5%
5%
32% 32% Office
31% 31%
Retail
Kontor Butik
Industri/logistik Industrial/logistics Bolig Residential Other Andet
5%
5%
Source: Sadolin & Albæk
27% 27%
January 2015
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The investment market for logistics/industrial properties remains illiquid with very few active investors. Accounting for 5% of total transaction volume in 2014, the segment is today predominated by specialised investors, which are scarce in Denmark. Representing one of very few large-scale investors in Denmark, NREP has been highly active in the segment in recent years. On an international level, a number of specialised investors are zooming in on Denmark, but it takes relatively high-volume portfolios to attract international investors. Such large portfolios were not offered for sale in 2014, but in 2013 when a major industrial property portfolio was put on the market, it sold to a foreign investor, M7 Real Estate, specialising in this particular segment.
Brighter outlook for 2015 According to Sadolin & Albæk, the outlook for 2015 is very bright, supported by prospects of a further increase in demand in the investment market in particular as well as by prospects of the occupational market catching up as the economy slowly recovers. All main drivers of the market in 2014 are predicted to stay in place in 2015, thereby strengthening the market even further. Barring major geopolitical surprises, we do not expect the stock market to lose momentum in 2015. On the contrary, we predict a continued increase in stock prices as market liquidity grows. It is therefore fair to expect relatively high stock prices in 2015 as well. The low bond
January 2015
market yields are projected to continue in 2015 and to some extent in 2016. The most important institution in terms of interest rate levels, the European Central Bank (the ECB), is not likely to raise the key lending rates in near future. In fact, the ECB has just announced a historical asset purchase programme to kick-start European growth. Until September 2016, the ECB intends to buy bonds worth EUR 1,140bn, thereby increasing market liquidity even further. The programme is launched in response to the weak growth momentum in Europe, with GDP growth of less than 1% in 2014 according to Danske Bank, and very low inflation. Initially, the programme is predicted to result in falling interest rates and rising stock prices, and longer term it may also serve to inject more capital into the investment market for commercial property. As the pricing of stocks and bonds is becoming increasingly unattractive, placement requirements continue to build up. Businesses are improving their earnings these years, and a substantial share of profits is distributed to owners as the businesses are unable to identify sound reinvestment opportunities. As a result, even more capital requires reinvestment, and there is every reason to expect that it will flow into property investments in particular. Incidentally, 12 domestic pension funds have announced plans to increase their exposure to real property by some DKK 45bn in the span of the next three years. The weak supply of prime investment properties will continue to pose a challenge to buyers, possibly triggering fierce competition for assets. Accordingly, yield requirements
Figure 3: Macroeconomic outlook 2014-2016 Year
GDP*
Unemployment**
Consumer spending*
Exports*
Inflation*
2014
0.9
5.1
0.4
2.8
0.6
2015
1.6
4.9
1.9
2.3
0.6
2016
2.0
4.7
2.0
4.2
1.5
2014
0.9
11.6
0.9
3.7
0.4
2015
1.5
11.4
1.5
4.6
-0.1
2016
2.1
10.9
1.1
4.2
1.6
Denmark
Eurozone
*) Growth (% y/y) **) % of workforce Source: Danske Bank
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are likely to come under continued downward pressure, driving up prices as a result. Downtrending yield requirements will probably whet the appetite of several pros pective sellers and combine with the current increase in prices to boost supply. It is also worth noting that a relatively large number of funds were active buyers in 20102012. Typically operating with investment horizons of five years or so, several funds are therefore likely to pursue partial or full-scale exit strategies in 2015, which may potentially increase the supply of investment properties.
Greater risk tolerance in 2015 Due to the combination of low yield requirements on prime property and massive placement requirements, investors are likely to become even more risk tolerant in 2015. This may fuel activity in some secondary segments that have so far attracted only moderate investment demand. In the office market, the greater risk tolerance is predicted to feed through to the Copenhagen CBD market in particular. This market is already seeing a higher propensity to invest in secondary properties even if featuring vacant space and/or short leases. Investors are increasingly prepared to invest in the development of this type of properties, for instance by converting outdated offices into residential units. Although suggesting increased risk tolerance, this trend is associated mainly with properties in central Copenhagen districts. The prime market for logistics/industrial property is one of few markets to still command relatively high yield requirements and where it is possible to buy quite up-to-date facilities on long leases at yields in excess of 7%. With prime
January 2015
yield requirements plummeting in the three main markets, viz. office, residential and retail, the logistics/industrial segment has become relatively more attractive and may see renewed activity in 2015. We believe that development schemes will continue to be in focus in 2015. Today’s institutional investors are increasingly seen to engage more actively in the early stages of the development process. As a result, they pocket a share of developer fees, which helps to safeguard attractive returns. The year 2015 will see continued brisk activity in Copenhagen development areas, as illustrated by the accelerating redevelopment of Carlsberg Byen and the continued transformation of the Nordhavnen district. Initially, residential newbuilding schemes are predicted to attract investors, but provided office tenants can be attracted to the districts, investors are likely to find office investments appealing too. In the retail market, we predict that the demand for high-street properties will continue unabated. Fierce competition among retail tenants for top locations has driven up retail rents for the past four years. The competition is set to continue as visibility at prime locations is believed to become increasingly important, not least due to the advance of online sales. Further rent increases are therefore forecast for the segment. However, Sadolin & Albæk believes that retail investments will be fronted by core investors in the years ahead, thereby replacing value-add investors as the predominant buyers. Overall, we believe that there are grounds for quite positive expectations in terms of commercial property market trends in 2015.
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January 2015
Domestic pension funds are skilled and active investors Property investments have always been an integral part of investment portfolios held by life insurance companies and pension funds. In an investment portfolio composed mainly of stocks and bonds, property investments are widely recognised for adding an element of diversification as the correlation between investment properties and stocks as well as bonds is relatively weak. Historically, most domestic pension funds have fundamentally pursued more or less the same property investment strategy. For years, the mantra has been to: • allocate about 10% to real property • concentrate on the residential and office property segments • invest predominantly in fully let office properties • ensure that residential investments generally contain a mix of existing properties and newbuilding Basically, all property investments were, in compliance with section 29 of the Danish Financial Business Act, perceived as very long-term placing of funds, and pension funds only rarely resold properties.
Different investment strategies In recent years, pension funds have adopted a much more proactive strategic approach to property investment, pursuing highly individual investment strategies today.
Figure 4: Share of volume, pension fund sales
Pension funds have a highly subjective approach to the purpose of property investments. Some investors continue to view property as an asset that offers attractive income return and – as real property is a real asset – an element of inflation hedging. Other pension funds view property more like a so-called ‘alternative investment’, the general idea being to allocate part of investments to relatively illiquid assets on which an illiquidity premium is achievable for investors. Finally, more opportunistic pension funds exploit their substantial financial strength to buy large-sized single prop erties and portfolios with development potential, which many other investors have difficulty financing, and where budgeted returns will therefore be above normal relative to investment properties that are easy to sell and finance.
Institutional sector underweight in real property Because of a massive capital build-up in the institutional sector – resulting from recent years’ high savings ratios as well as from substantial gains on stocks and bonds – the domestic pension fund sector in general is underweight in real property. In addition, exceptionally low interest rate levels are prompting an increase in allocations to real property, offering a more attractive regular return than the fixed-income market. According to a recent survey by the Danish online newspaper ‘Finans’, as many as 12 leading pension funds with combined property assets of some DKK 90m plan to increase their property exposure by an additional DKK 45bn
Figure 5: Share of volume, pension fund acquisitions
23%
20%
80%
Source: Sadolin & Albæk
Pension Pensionskasser funds
Pension funds
Others Andre
Others
77%
Pensionskasser Andre
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in the span of the next three years. It is therefore quite interesting to note that institutional investors were in fact only on a moderate scale net buyers of real property in 2014. In 2014, the overall transaction volume in the Danish market for commercial and investment properties totalled approximately DKK 30bn. In terms of investment volume, domestic pension funds accounted for 20% of property sales and 23% of property acquisitions. The aggregate direct exposure of Danish pension funds in the domestic market therefore saw only a moderate increase by just under DKK 1bn. However, it should be added that recorded transactions also included a number of acquisitions by property funds that have domestic pension funds among their owners. The aggregate volume of direct and indirect net investments by the institutional sector was therefore higher than suggested by the above figures.
Intensified competition for good-quality investment properties from pension funds – and brisker transaction activity among pension funds In recent years, we have seen pension funds competing relatively fiercely to secure the most attractive investment opportunities. In addition, unlike the past it is now quite commonplace that a property put on the market on behalf of one institutional investor is acquired by another. Both trends are indicative of an increasingly liquid and professionalised property market, where each single investor
January 2015
pursues individual investment strategies unbiased by the actions of other investors.
Anti-speculation provision in section 29 of the Danish Financial Business Act has become outdated Today, pension funds may establish, acquire and operate real property only as “a long-term placing of funds”. Usually, the provision is interpreted to the effect that pension funds are not allowed to e.g. erect residential housing for the purposes of resale of owner-occupied flats (commonhold units). However, the provision may also be interpreted as a barrier preventing pension funds from acquiring e.g. a portfolio of rental flats qualifying for conversion, if the evident purpose is resale when individual flats are vacated. The provision seems founded on the notion that the development of properties for the purposes of resale is a more risky investment than the development of properties for the purposes of letting. However, this notion seems nei ther rational, nor justified. Needless to say, an institutional investor too should be entitled to optimise the return on invested capital, and legislation should not impose restrictions that prevent property development for the purposes of resale if this yields a higher return than development for the purposes of letting and long-term ownership. As a matter of fact, a repeal of the provision is anticipated to the effect that also pension funds and life insurance companies are provided with sufficient leeway to optimise returns on their property activities.
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January 2015
Stronger focus on optimised property utilisation In recent years, most companies have intensified their focus on efficiency improvements in order to reduce costs. In many instances, this objective has been achieved by layoffs and by outsourcing a number of activities. In terms of real property, this has translated into stricter requirements of in-house service and facility management, often resulting in the outsourcing of activities such as cleaning, canteen operation and maintenance. Basically, many companies have managed to reduce costs and improve efficiency thanks to such initiatives. However, the scope of initiatives is often predefined by the existing settings, including the properties owned or rented by the company. At the same time, companies are far from always endowed with an insight into the property market and therefore tend to focus exclusively on technical and operational aspects. A great many companies have therefore failed to address quite essential issues: do existing premises effectively support the company’s operations, and will they continue to be ideal for the company in the prevailing circumstances?
CREM as a discipline Corporate Real Estate Management (CREM) is a discipline originating from the United States and the UK but becoming increasingly common in Europe, including Denmark. CREM involves issues such as space planning, acquisition, design, construction/reconstruction, control and management of corporate real property, whether leased or owned.
CREM basically focuses on how to optimise property utilisation by means of adopting an ongoing proactive approach to the corporate property portfolio (leased as well as owned properties). The portfolio must support the company’s overall objectives while also representing a business unit that creates value for the company. Value is created by minimising costs in alignment with the company’s objectives while optimising the value of the properties in the process. Accordingly, the properties used by the company are to a greater extent considered an element or service, which needs to be regularly adjusted to suit the company’s requirements and which may be replaced, upsized or downsized, if failing to match these requirements. For instance, when Carlsberg decides to close down its brewery in the Copenhagen district of Valby and relocate activities to Fredericia in Jutland, this opens up the possibility of optimising production in new surroundings as well as netting the value of the existing site, which has a higher site value. However, the main purpose of CREM will always be to support core business activities – not to create a cost-benefit centre that has a counterproductive objective. Such counterproductive objective could be an upward adjustment of internal rental levels in order to maximise the value of properties owned by the company itself; this would indeed increase the value of the properties, but would on the other hand be detrimental to business. In order to run efficient CREM operations it is essential for the company to have an overview of its facilities. Overview in this context not only covers questions relating to the amount of square metre space and cost items, but also
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January 2015
Figure 6: Use of data to shape property-related decisions
Source: Mind The Data Gap: Aspiration vs. Reality In Corporate Real Estate, Forrester Consulting/JLL
type of functions and number of employees at individual company locations. In addition, it is imperative to know the market value of the facility in the case of owned properties or the market rent in the case of leased properties. At the same time, it is important to know the business plan of individual functions in order to be able to bring the plan in alignment with corporate expectations. The compilation and structuring of data is one of the main challenges of CREM. We meet many companies that have a lot of data but often employ a structure that does not provide any overview of key figures and are therefore unable to fully leverage the data. The public-sector equivalent of CREM is called PREM (Public Real Estate Management) and is rapidly gaining ground just like CREM. Back in 1998, the Danish State started to develop a model that would allow it to optimise the utilisation of its properties. This model provided The Danish Palaces and Properties Agency, Slots- og Ejendomsstyrelsen (today The Danish Building & Property Agency, Bygningsstyrelsen) with ‘ownership’ of the state-owned property portfolio for the specific purpose of improved control and optimised utilisation.
Recent years have seen dramatic changes in the public sector with many municipalities establishing so-called property centres. However, the actual role of these property centres vis-à-vis politicians and individual area managements varies considerably. The emphasis of either discipline, CREM or PREM, will always be optimising property utilisation to match corporate operations and objectives. Corporate and public-sector users typically achieve considerable savings when reviewing their property facilities. The more widespread use of CREM has fostered a number of new general trends in the property market, including: Optimised space utilisation: Broadly speaking, workplace area requirements have come under closer scrutiny, which entails new requirements in terms of building design and layout. A number of companies have developed layout standards, often based primarily on open-space office environments. These standards go by names like Work Place Advantage, Flex-Word, I-Works, etc., in the corporate world. In Denmark, for instance, a number of municipalities and public-sector institutions use the definition ‘intelligent square metres’ (‘kloge kvadratmeter’). From a landlord perspective, the new standards frequently involve
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January 2015
Figure 7: Typical examples of savings achieved after review of portfolio (%)
Lease negotiaton (up to 20%) Space planning (up to 15%) Location (up to 20%) Building design (up to 5%) Combined savings (up to 40%) Source: Sadolin & Albæk
substantial upgrade investments when outdated premises are to be converted into an up-to-date business setting for new companies, but also ample development opportunities in terms of office newbuilding. Users will typically be prepared to pay a higher price per square metre space if the layout and quality facilitates efficient utilisation. Location: In line with the increasing urbanisation trend, companies are also increasingly relocating to more central locations or locations that offer easy access and are well serviced by public transport. As a result, properties situated in districts with poor infrastructure will become much more difficult to sell/let in future. The extension of the Copenhagen Metro and the light rail construction schemes therefore provide good future framework conditions for new emerging business districts. Building design/efficiency: Depending on the company’s strategy, properties may have various features that render them less suitable for achieving its objectives. We therefore see a shift in favour of relatively new properties offering flexible layout, greater building depth, taller storey heights and superior quality. In addition, we witness a request for shared communal facilities, e.g. canteen, large-sized meeting facilities, workout facilities, etc. This increases the demands on more dated properties in particular, but also
requires a profound understanding of corporate needs when conceiving new property development projects. Lease negotiations and renegotiations: The lease agreements of many companies are of an older date, stipulating annual rent adjustments linked to the Net Price Index (often with the provision of a minimum rate of increase) irrespective of market rent developments. As a result, the gap between passing rent and market rent has widened quite considerably. An increasing number of companies have become aware of this discrepancy, and we see many lease renegotiations for the purpose of rent reduction, often subject to reciprocal agreement on an extended tenant non-terminability period. Typical CREM objectives aim at ensuring that passing rents are on a par with market rents, but also involve demands in terms of flexibility and other conditions. The non-terminability period is therefore often subject to revision in corporate strategies, and the objective is of course to facilitate easy realignment should the company’s business conditions change. Sadolin & Albæk predicts that companies will focus increas ingly on aligning and optimising property portfolios and prop erties, keeping the occupational market under pressure.
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January 2015
How does low inflation affect the property market? Inflation is considered one of the most important macroeconomic key indicators in terms of the property market, but what does this simple yet abstract concept actually signify? Persistently rising general price levels signify inflation, whereas persistently falling general price levels signify deflation. Price movements are determined by the overall level of supply and demand. Periods of rapid economic expansion will often see some positive demand shocks, which serve to drive up prices provided supply is stable. Conversely, periods of economic decline will often see negative demand shocks, which drive down prices. Supply shocks typically occur due to changes relating to productivity, the workforce, commodity quantities, etc. and are therefore rarely cyclically determined.
Long-term deflation adverse effect on property market With direct negative bearing on the indexation of rents, extended periods of deflation have an unequivocally adverse effect on the property market. In addition, deflation has serious repercussions for the real economy. Prospects of downtrending prices may serve to postpone both consumption and investment, making it difficult for companies to improve their competitive strength, seeing as implementing nominal wage cuts has proved extremely difficult in practice. Moreover, these elements may have self-reinforcing effect, translating into further price declines, which may give rise to a deflationary spiral. However, if deflation is short-lived it may in fact have a favourable effect on the economy, provided the underlying cause is a sudden supply shock. In this case, it increases purchasing power and may help to encourage consumption and investment. The risk of short-term deflation lies in the ensuing expectations of persistently downtrending prices, translating into a self-fulfilling deflationary spiral. This risk increases in economic downturns, with economic growth hanging in the balance. Persistent deflation – or even just prospects to this effect – may therefore prompt a steep decline in real-economic growth, driving up vacancy rates and driving down market rents (in real terms), increasing the risk associated with property investments in the process.
What measures are taken to prevent deflation? The main responsibility of central banks worldwide is to safeguard price stability, which includes the prevention of excessive rates of inflation and deflation alike, both of which hamper economic development. In a historical context, central banks have controlled price movements in the economy by adjusting money supply and by ensuring that this supply would grow at a steeper rate than the economy, resulting in inflation. However, due to financial innovation, the required direct correlation between inflation and money supply no longer exists, and interest rates are today the primary monetary policy instrument used by central banks worldwide. Monetary-policy interest rates affect market behaviour in the sense that they may increase or reduce the incentive to invest and spend money, in the short term triggering positive or negative demand shocks. Similarly, deflation/inflation often ties in with weak/strong economic growth, and concurrently with expansionary/ contractionary monetary policy, a corresponding expansionary/contractionary fiscal policy is typically adopted in response. Fiscal instruments often have growth as their main objective, but they are an important factor to be considered when making monetary policy decisions. How to make such decisions in a monetary union where every member state is intent on determining its own fiscal policies – within certain boundaries – is quite a challenge.
What has driven inflation in the past 12 months? Measured in terms of the consumer price index, the rate of inflation was a mere 0.3% between December 2013 and December 2014, and with an annual increase in prices of a mere 0.6% on average in the same period, inflation hit a 60-year low. Broadly speaking, the prices of labour-intensive services increased by 1.6% between December 2013 and December 2014, whereas the goods and other services category dragged down inflation quite substantially with a price decline of as much as 1.0% in the same period. The following categories have seen a decline in general prices: • Food • Clothing and footwear • Transport • Communications.
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January 2015
Figure 8: Euro day-to-day interest vs. eurozone inflation Eurozone - inflation
5.0%
EONIA (Euro OverNight Index Average)
4.0%
3.0%
2.0%
1.0%
2014
2013
2012
2011
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
2000
1999
1998
1997
0.0%
Source: Eurostat
When discounting communications, as this category carries very little weight and represents an industry in which fierce competition and rapid technological advances have led to a prolonged price war, commodity-intensive sectors and relatively cyclical categories have seen the most pronounced decline in prices. The latter are still reeling from the effects of sluggish consumer spending, which continued to take its toll on the economy in 2014. We see sustained increases in real wages, and the driver of recent years’ downtrending inflation may therefore be argued to remain a positive supply shock as opposed to weakening demand.
Correlation between low inflation and historically low interest rates In the aftermath of the global economic and financial crises, global expansionary monetary policies have had the two-fold aim of stimulating both inflation and growth, following the negative demand shock that hit the global economy. The expansionary monetary policies pursued have had different effects all over the world, and the ECB has been less successful in kick-starting the economy than the Federal Reserve (the Fed). In recent times, Europe has not seen this low a level of interest rates combining with this low a rate of inflation, and the effects of the expansionary mone-
tary policy on the heels of the economic crisis have yet to kick in. The situation is compared to the ‘Lost Decade’ used to describe Japan in the 1990s, and it is feared that Europe is heading for a protracted period of persistently weak growth and correspondingly low interest rate levels, unless drastic monetary and fiscal measures are taken. This will seriously test European unity in 2015 as opinions differ widely on the deployment of more direct measures of quantitative easing as well as the acceptability of consistent violations of EU guidelines on sovereign debt limits. Sadolin & Albæk claims that the failed monetary policy and current deflation risk may be largely attributed to insufficient capitalisation in the European banking sector, coinciding with the sector being subjected to stricter regulation. As a result, in the aftermath of the financial crisis, the banking sector was not only required to recapitalise but also to deal with uncertainty arising from more rigorous regulation. This uncertainty and the absence of a self-fuelling economic recovery have rendered it both difficult and costly to strengthen the capital base via the capital markets. As a result, banks have had to restore capitalisation laboriously through their earnings. Apart from cutting overheads, earnings may be improv ed mainly by expanding business (lending) or by raising product prices, and increasing lending volumes is a high-
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ly risky venture when the future capital requirements of banks are unknown. Product prices have been increased, but not without detrimental impact on society. Loan costs, whether direct or indirect, are believed to exacerbate the already negative demand shock that hit the economy on the heels of the financial crisis. This outcome runs quite contrary to the intentions of a more lenient monetary policy. Seeing as European banks have not increased lending volumes and cut lending rates, the question remains: What have we actually gained from the expansionary monetary policy? It has served to slowly bolster banking sector balance sheets by making inexpensive credit available, thereby enabling European banks to purchase government bonds and other financial assets that have subsequently served as loan collateral. In doing so, the banks have improved their earnings, corresponding to the yield spread between financial assets and ECB lending facilities, followed by substantial capital gains in step with persistently falling interest rates on these financial assets. It has therefore proved quite counterproductive to combine expansionary monetary policy and stricter regulation without simultaneously strengthening the capital base of the banking sector, as this reduces the effects of the monetary policy. Fundamentally, Sadolin & Albæk is no advocate of nationalisation, whether in full or in part. However, there is little doubt that a determined recapitalisation of the US banking sector has served to increase the multiplication effect associated with monetary policies, acting as a substantial contributory factor in speeding up US economic recovery. In the past 12 months, the belief that economic recovery will last has started to prevail, and the future ground rules of the banking sector have now been laid down. This means that the expansionary monetary policy, finally, six years after the onset of the crisis, is beginning to feed through to households and businesses. It is not surprising that inflation is slow to respond irrespective of historically low interest rates. Because of a prolonged period of failed monetary policy, which did not translate into a substantial positive demand shock, combined with a positive supply shock prompting a sharp decline in energy and food prices in the second half of 2014, the risk of short-term deflation is real. However, it is important to bear in mind that positive supply shocks have a favourable effect on the real economy even if they could lead to a redistribution of values. The decline in oil prices is driven by rivalling energy sources, which are becoming increasingly cost-effective to exploit. This has prompted
January 2015
oil-producing countries to upscale production in order to reduce the profitability of alternative energy sources. All other things being equal, the increased profits from other energy sources and the intense competition from oil countries will boost production in a global context. Irrespective of Danish oil reserves in the North Sea, the consensus is that less costly energy sources will clearly benefit Danish economy, even if putting a strain on public finances in the short term. On account of geopolitical developments, such as the Russian trade embargo, food prices have declined. However, this should not be viewed as a positive supply shock, as it is not triggered by increased productivity but by reduced selling opportunities, which is clearly detrimental to Danish economy. The use of interest-rate instruments has rendered the ECB vulnerable; with a lending rate of a mere 0.3% and a deposit rate of -0.2%, it is running out of options. For the same reason the ECB, causing considerable German frustration, in January 2015 announced a massive asset purchase programme involving the monthly purchase of financial assets worth EUR 60bn at least until September 2016. The ECB therefore seems bent on taking all steps necessary to prevent eurozone deflation. However, the programme comes at a cost, as it could lessen the incentive for southern European governments to overhaul their economies, which is the root-cause of Germany’s objections.
Upcoming deflation predicted to be short-lived In the short term, Sadolin & Albæk predicts that Denmark is highly likely to be hit by deflation in the first quarter of 2015, albeit a deflation driven largely by a positive supply shock as opposed to a negative demand shock. Economic growth is positive, and in conjunction with a prevailing housing market recovery and substantial growth in real wages this is projected to have a self-fulfilling effect in terms of higher levels of consumption and investment in 2015. For the same reason, deflation is believed to be confined to the first half of 2015, whereby a deflationary spiral may be avoided, and the short-lived deflation is in fact argued to support consumption by increasing spending power in the short term. It also deserves mention that the categories currently seeing falling prices relate mainly to everyday consumer goods (food, petrol, telephony, etc.), and it is only to a limited extent possible to postpone consumption in such categories. This strengthens our conviction that the decline in prices will be perceived primarily as stronger purchasing power, serving to bolster the budding economic growth.
15 NewsLetter - Commercial property market commentary
January 2015
General election 2015 – how will it affect the property market? On 15 September 2015 at the latest, the Danish Parliament is obliged to call for a general election. Judging by some opinion polls, the Social-Democratic led government will be replaced by a Conservative/Liberal government, but all bets are still on as election polls are associated with very substantial uncertainty. In the property market, active players may find it comforting to know that Sadolin & Albæk believes that the outcome of the election will have no measurable effect on the market for commercial and investment properties. Today, the economy and the investment market in general are increasingly susceptible to external factors. The Russian situation, oil prices, the CHF exchange rate, initiatives by the Fed and the ECB, to name but a few factors, have a much more profound effect on the Danish market for commercial and investment property than the political persuasion of the Danish government. Sadolin & Albæk therefore believes that neither the letting market for residential and commercial property, nor the investment property market will be affected by the election result. The economic policies we may expect from a government led by the Social-Democrats and the Liberal Party, respectively, are likely to have so much in common that employment trends, growth in consumer spending as
well as interest rate developments will remain unaffected by the political colours of the government. For the property market in general, such stability of course entails the considerable and favourable effect that it eliminates a possible element of risk in the market, which in itself contributes to attracting foreign investors to the domestic investment property market. However, it should not be ignored that certain segments of the market may to some extent be susceptible to short-term market volatility prompted by political statements leading up to the election. We have seen examples to this effect in the past, for instance in connection with the potential introduction of road pricing (a payment ring encircling Copenhagen, which was a hot topic in the last general election), the regulation of residential rents and amendments of planning provisions for new retail construction, in particular more lenient space requirements for grocery shops and supermarkets, etc. Overall, Sadolin & Albæk encourages both tenants, occupiers and property investors not to let such topics affect their decisions. Experience shows that proposals and material amendments of such political framework conditions often turn out to come to nothing once everyday life returns after the election.
16 NewsLetter - Commercial property market commentary
January 2015
Property marketmarket indicators - January 2015 Property indicators 2010
Office
2011
2012
Q1
Q2
Q3
Q4
Q1
Q2
Q3
1,750
1,700
1,700
1,700
1,750
1,800
1,800
Rent levels Copenhagen Aarhus
Q1
Q2
2013 Q3
Q4
2014
2015
Q1
Q2
Q3
Q4
Q1
Q2
Q3
Q4
Q1
1,800
1,800
1,800
1,775
1,750
1,750
1,750
1,750
1,750
- DKK/sqm/year excluding operating costs and taxes Prime
1,800
1,800
1,800
1,800
1,750
-%-
1,125
1,100
1,100
1,100
1,100
1,100
1,100
1,100
1,100
1,100
1,100
1,100
1,100
1,100
1,100
1,100
1,100
1,075
1,075
1,075
1,075
0.0%
1,400
1,400
1,400
1,400
1,400
1,400
1,400
1,400
1,400
1,400
1,400
1,350
1,350
1,350
1,350
1,350
1,350
1,350
1,350
1,350
1,350
0.0%
850
825
800
800
800
750
750
750
750
750
750
750
750
750
750
750
750
750
750
750
750
0.0%
1,050
1,050
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
1,000
0.0%
625
625
600
600
600
550
550
550
550
550
550
525
525
525
550
550
550
550
550
550
550
Prime
Net initial yields
Aarhus Triangle Region
0.0%
Secondary
Secondary
Copenhagen
Change Q4 - Q1
Prime Secondary
Triangle Region
Q4
0.0% - %-point -
Prime
5.00
5.00
5.00
5.00
5.00
5.00
5.00
5.00
5.00
5.00
5.00
5.00
5.00
5.00
5.00
5.00
4.75
4.75
4.50
4.50
4.50
Secondary
6.50
6.50
6.50
6.50
6.50
6.25
6.25
6.50
6.50
6.50
6.75
6.75
6.75
6.75
6.75
6.50
6.50
6.50
6.50
6.50
6.50
-0.25 0.00
Prime
5.25
5.25
5.25
5.25
5.25
5.25
5.25
5.25
5.25
5.25
5.25
5.25
5.25
5.25
5.25
5.25
5.25
5.25
5.00
5.00
5.00
-0.25
Secondary
7.00
7.00
7.00
6.75
6.75
6.75
6.75
7.00
7.00
7.00
7.00
7.00
7.00
6.75
6.75
6.75
6.75
6.75
6.75
6.75
6.75
0.00
Prime
6.00
6.00
6.00
5.75
5.75
5.75
5.75
5.75
5.75
5.75
5.75
5.75
5.75
5.75
5.75
5.75
5.75
5.50
5.50
5.50
5.50
0.00
Secondary
7.25
7.25
7.25
7.25
7.25
7.25
7.00
7.00
7.00
7.25
7.50
7.50
7.50
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
0.00
Greater Copenhagen
8.6
8.8
9.7
9.6
9.1
7.9
8.6
8.0
9.8
9.8
10.1
9.4
9.6
9.9
10.1
9.9
11.3
11.1
10.5
10.3
Greater Aarhus *
9.8
10.4
10.6
10.8
11.3
10.6
11.1
11.1
12.0
13.6
13.7
13.3
13.1
13.5
13.2
13.8
13.0
12.3
12.3
12.5
0.00
Triangle Region
5.8
6.6
6.5
6.1
6.2
7.6
7.2
7.3
8.3
8.8
9.2
9.3
9.6
9.5
9.0
9.5
9.5
10.7
11.0
10.7
0.30
Vacancy rates
- %-point -
2010
Retail
2011
2012
Copenhagen
Q1
2013
2014
2015
Q1
Q2
Q3
Q4
Q1
Q2
Q3
4. kvt.
Q1
Change Q4 - Q1
20,000
20,500
20,500
20,500
21,000
21,500
21,500
22,000
22,500
22,500
2.3%
15,000
15,000
15,500
16,000
16,000
16,500
17,000
17,000
17,000
17,000
17,000
0.0%
7,500
7,500
7,500
8,000
8,000
8,500
8,500
8,500
8,500
8,500
8,500
0.0%
Q1
Q2
Q3
Q4
Q1
Q2
Q3
Top
17,500
18,000
18,000
18,000
19,000
19,000
19,500
19,500
19,500
20,000
20,000
High
12,500
13,000
13,000
14,000
14,000
14,000
14,000
14,500
14,500
15,000
6,500
6,750
6,750
7,000
7,000
7,000
7,000
7,000
7,000
7,500
Rent levels
Q4
-0.60
Q2
Q3
Q4
- DKK/sqm/year excluding operating costs and taxes -
Average
4,800
4,800
4,800
5,000
5,000
5,000
5,000
5,200
5,200
5,200
5,200
5,200
-%-
Aarhus
Top Average
2,700
2,700
2,700
2,800
2,800
2,700
2,800
2,800
2,800
2,800
2,900
2,900
2,900
2,900
3,000
3,000
3,000
3,000
3,000
3,000
3,000
0.0%
Triangle Region
Top
3,000
3,000
3,000
3,000
3,000
2,850
2,850
2,900
2,900
2,900
2,900
2,900
2,900
5,300
3,000
5,300
3,000
5,400
3,000
5,400
3,000
5,400
3,000
5,500
3,000
5,500
3,000
5,500
3,000
5,500
0.0%
Average
1,250
1,250
1,250
1,300
1,300
1,200
1,200
1,200
1,200
1,200
1,200
1,200
1,200
1,200
1,200
1,250
1,250
1,250
1,250
1,250
1,250
Net initial yields Copenhagen
0.0%
0.0% - %-point -
Prime
5.00
5.00
5.00
5.00
4.75
4.75
4.75
5.00
5.00
5.00
5.00
4.75
4.75
4.75
4.75
4.75
4.50
4.50
4.50
4.25
4.00
0.00
Secondary
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
0.00
4.50
-0.25
Aarhus
Prime Secondary
6.75
6.75
6.75
6.75
6.75
6.75
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
6.50
0.00
Triangle Region
Prime
6.00
5.00
6.00
5.00
6.00
5.00
6.00
5.00
6.00
5.00
6.00
5.00
6.00
5.00
5.75
5.00
5.75
5.00
5.50
5.00
5.50
5.00
5.50
5.00
5.50
5.00
5.50
5.00
5.50
5.00
5.50
5.00
5.50
5.00
5.50
5.00
5.50
4.75
5.50
4.50
5.25
0.00
Secondary
6.75
6.75
6.75
6.75
6.75
7.00
7.00
7.00
7.00
7.00
7.25
7.50
7.50
7.50
7.50
7.50
7.50
7.50
7.50
7.50
7.50
0.00
3.3 4.4 7.2
3.4 5.2 7.1
3.3 5.2 6.9
3.5 5.8 7.2
3.3 5.9 7.7
3.5 6.2 8.1
3.2 6.1 6.9
3.7 5.9 7.0
3.8 6.0 7.2
4.0 6.5 9.2
4.4 6.6 9.4
4.2 7.1 10.2
4.6 6.1 9.4
Vacancy rates Greater Copenhagen Greater Aarhus * Triangle Region
2010
Industrial
Q1
Q2
2011 Q3
Q4
Q1
Q2
2012 Q3
Rent levels Copenhagen Aarhus Triangle Region
4.4 5.9 9.7
Q4
Q1
Q2
4.5 5.8 8.7
4.7 5.7 8.9
4.5 6.1 8.9
4.3 5.9 9.6
2013 Q3
Q4
Q1
Q2
4.2 5.8 9.9
4.3 5.3 9.7
2014 Q3
Q4
Q1
Q2
2015 Q3
4. kvt.
Q1
- DKK/sqm/year excluding operating costs and taxes -
-%-
Prime
550
550
550
550
575
575
575
575
575
575
575
575
575
575
575
575
575
575
575
575
575
0.0%
Secondary
375
375
350
350
325
325
325
325
325
325
325
325
325
325
325
325
325
325
325
325
325
0.0%
Prime
450
450
450
425
425
400
400
400
400
400
400
400
400
400
400
400
400
400
400
400
400
0.0%
Secondary
275
275
275
300
300
275
275
275
275
275
275
275
275
275
275
275
275
275
275
275
275
Prime
400
400
375
375
375
350
350
350
350
375
400
400
400
400
400
400
400
400
400
400
400
0.0%
Secondary
275
275
250
250
250
225
225
225
225
225
225
225
225
275
275
275
275
275
275
275
275
0.0%
Long
7.00
7.00
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.00
7.00
7.00
6.75
0.00
Short
8.50
8.50
8.50
8.50
8.75
8.75
8.75
8.75
9.00
9.00
9.00
9.00
9.00
9.25
9.25
9.25
9.25
9.25
9.25
9.25
9.00
0.00
Net initial yields** Copenhagen
Change Q2 - Q3
0.0%
- %-point -
Aarhus
Long Short
8.50
8.50
8.50
8.50
8.50
8.75
8.75
8.75
9.00
9.00
9.00
9.00
9.00
9.25
9.25
9.50
9.50
9.50
9.50
9.50
9.50
0.00
Triangle Region
Long
7.25
7.00
7.25
7.00
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.50
7.25
7.50
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.25
7.00
7.00
7.00
7.00
7.00
-0.25
Short
8.50
8.50
8.50
8.50
8.50
8.75
8.75
8.75
9.00
9.00
9.00
9.00
9.00
9.25
9.50
9.50
9.75
9.75
10.00
10.00
10.00
0.25
Vacancy rates Greater Copenhagen
3.1
3.9
4.0
4.2
3.9
3.9
4.0
3.5
4.1
4.2
4.5
4.7
4.4
4.7
4.2
4.3
4.2
4.1
4.0
4.3
Greater Aarhus *
5.2
6.0
6.7
6.5
7.3
6.9
7.1
6.6
6.3
6.0
5.5
5.3
4.9
5.1
5.3
5.2
5.1
5.0
4.1
4.2
Triangle Region
2.3
3.1
3.2
3.2
3.2
3.3
3.5
3.3
3.5
3.5
3.7
3.9
4.1
4.2
4.4
4.3
4.1
4.0
4.1
3.7
* Today in terms of administration part of Region Midtjylland (Central Denmark Region) ** Long and Short denotes the lease term
7.00
-0.25
Sadolin & Albæk A/S
Palægade 2-4 DK-1261 Copenhagen K T: +45 70 11 66 55 Skovvejen 11 DK-8000 Aarhus C T: +45 70 11 66 55 E:
[email protected] W: www.sadolin-albaek.dk CVR no. 10525675 ISSN: 2246-6967
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