North Germany best for value returns, East for cash-flow - Study

Swiss-based investment manager Empira Group has just published a very useful study on German residential real estate returns, looking in particular at cash flow returns, change in value returns and total returns, for the years 2005 to 2017.

For the study, the Zug-headquartered Empira analysed 110 German cities with more than 75,000 inhabitants, dividing the cities into different clusters based on the four parameters of market size, region, rent levels and economic momentum.

The study found that the share of cash-flow as a part of the total returns on residential real estate has been steadily declining, albeit frequently being compensated by a considerable change in value returns. The latter are mostly based on high multipliers (i.e. low valuation yields) and to a lesser extent on rent increases. Subsequently, the importance of change in value returns has increased. In spite of regionally different developments, the differential range between best and worst performing markets in terms of total returns has fallen.

The cash-flow returns produced above 5% in only seven of the cities surveyed, although the median cash-flow return at 4.18% still comfortably surpassed the returns on 10-year government bonds. The average dividend yield on the DAX-30 list of leading companies has been between 2.3% and 2.8% over the last four years, with higher volatility.

According to Dr. Steffen Metzner, Head of Research at Empira Group, “There is no doubt that the German residential real estate market has developed steadily and positively in recent years. This development, however, unfolded quite differently depending on the location. Our study is supposed to help better plan future investments by making available information on the range of residential market returns as well as the factors correlating with higher and lower returns.”

North and South, larger cities predominate

The study found the highest change in value returns in the cluster 'market size' in cities with more than 500,000 residents. These locations have produced the highest average total returns to investors since 2005. The average cash-flow returns in mid-sized cities of up to 100,000 inhabitants, however, exceeded the corresponding figure for larger markets. Compared by region, cash-flow returns were strongest in Eastern Germany, whereas Northern and Southern Germany performed best in terms of average change in value returns.

Overall the cities with the highest Total Return last year were Lübeck, Berlin, Kaiserslautern, Mannheim and Offenbach

The analysis also shows that locations with low rent levels or low economic momentum are characterized by a low change in value returns while performing best when it comes to cash-flow returns. This implies significant reservations from investors in these difficult markets, which is reflected in low purchase price multipliers. In turn, the study demonstrates particularly high change in value returns and by extension the highest total returns in cities with strong economic momentum. Here cities like Cologne, Berlin, Ulm, Erlangen and Regensburg performed well.

Cash-flow returns diverging

Of particular note was the widening of extremes in cash-flow returns. In 2005, for instance, the minimum and maximum values were separated by 1.97 percentage points, while by 2017, this spread had opened up notably to 3.18 percentage points.

As Lacen Knapp, Empira ‘s CEO explained, “A continuous cash-flow is crucial particularly for institutional investors, whose traditional asset classes have been generating low returns for years now. Therefore, a systematic comparison and tailor-made investment strategies are certainly worthwhile. Depending on whether an investor is looking for stable cash-flows or potential change in value, it is advisable to consider a range of different locations.”