Bulwiengesa
Bulwiengesa's The 5 % Study 2023
We have traditionally reported on the annual study produced by researchers Bulwiengesa as to where the investor in German real estate needs to look to get his hand on a solid 5% yield. The task has been getting more difficult over the past few years - and not surprisingly, proved almost fully elusive in this depressing year. Almost, but not quite.
As always, under the doughty leadership of Bulwiengesa board member Sven Carstensen, the researchers took their 9th annual presentation on the road, availing of the generous sponsorship of lawyers Advant Beiten and their local offices in Germany's Top 5 cities to host the well attended series with differing local property experts to flesh out the discussions and provide local colour.
The study uses a dynamic model to determine the probable internal rate of return of an investment for an assumed holding period of ten years, using a cash flow analysis (from purchase, through rental income, property and management costs, to sale).
It goes without saying that the mood at the gatherings and the tone of this year's results was as pessimistic as it has ever been in modern memory. The sentiment in construction financing has been sinking for six quarters in a row, bank lending is becoming ever more restrictive. Transaction volume in the commercial sector could fall to between €20m and €25m for the full year - the equivalent of the 4th quarter alone in 2021.
Residential housing
While demand remains high for residential housing, the sector is overshadowed by government attempts to curb rent rises, all the while building activity is shrinking drastically. Next year Bulwiengesa expects a total of 210,000 new-built apartments, with even less in 2025. The nation's housing stock is supposed to reach climate neutrality by 2045 - which can only happen with massive investment, easily reaching €1,800 per sqm for older buildings, according to Carstensen. Still, the study predicts that, "despite all the imponderables, the market will again become more attractive for investors. Housing remains the asset class for safety-oriented investors, who are now definitely seeing good entry opportunities." At the moment the achievable IRRs are in the base range of between 2.4% in the A-markets and 3.0% in university cities.
Useful insights into the sector were provided by Dominik Barton of family-owned investment company Barton Group. His company's funds hold 75% of their assets in residential property, many of which include a social component, in that rents are very often modest, at between €6.00 and €10.00 per sqm. For older buildings, the refurbishment costs alone would reach €30m, while only adding a further €15m in value. He would have to charge rents of up to €25.00 per sqm, which no-one would pay. Without subsidies, he said, expectations that developers would adhere to government guidelines were pie in the sky.
Small furnished apartments (Micro-living) remain in strong demand, particulary in the biggest cities, where occupancy rates have been rising strongly due to a lack of alternatives for flat-hunters in the tightest housing markets. Here investors can expect a performance of 3.6%.
Office
In the office sector, trends prevailing in the USA are raising fears that vacancies in German offices are also set to rise sharply, not least due to the influence of working from home. The study's authors write: "A look at the fundamentals should put this into perspective, but scepticism here is still growing." In smaller markets, the disproportionate costs of likely future energy requirement for offices are acting as a damper on the sector.
Host Klaus Beine from Advant Beiten pointed out at the Frankfurt event that for all potential office deals, everything is now about renegotiating contracts as they simply can no longer be fulfilled. The market now desperately needs to find new creative ways to break the logjam, he said. Even the definition of what is now an A-location needs to be re-examined, he added, with the desires of the C-suite for a representative office property now giving way to the needs of employees, who may more highly value good shopping and eating facilities or good transport connections, than the poshest locations.
Dennis Davidoff, investment manager at Prime Capital, said "small and modern" is the future, along with A-locations in A-cities. Although A-cities only account for 20% of Germany's office properties, pointed out Bulwiengesa's Carstensen, meaning that 80% of offices will be difficult to refurbish. The prevailing rents in D-cities such as Dessau or Marburg will make it very hard to justify the necessary refurbishment costs, he warned. Barton confirmed that even for already revitalised properties in line with energy guidelines, prices had already fallen sharply
Bulwiengesa puts achievable yields in the sector at between 1.2% and 3.9% in A-markets for quality properties with a really secure cash flow. In the D-markets, the range is 1.3% to up to 5%.
Retail
Retail real estate had already been suffering hefty disruption even before COVID due to the impact of e-commerce, and the process of rent adjustments is now largely completed. Shopping centres are still only traded selectively, making returns difficult to quantify. In retail parks, grocery-anchored retail are the main cash flow stabilisers. Bulwiengesa thinks demand will pick up again. Retail parks are currently yielding 4.28%, while 4.59% is achievable on shopping centres.
Hotels
Hotels have been improving strongly, particularly city hotels benefiting from the recovery in business travel. While operators are still struggling with surging costs and staff shortages, and the sector is still viewed as being somewhat subordinate, there is more movement now. On existing properties, the achievable IRR is between 3.4% and 6.8%, depending on the lease contracts and the operators' relatvie economic strengths.
Logistics
Logistics properties have been the beneficiaries of the growth in online trade, with rents rising proportionally. Investors still see much rent development potential, says Bulwiengesa, citing, "New demands on the part of industry with regard to building up their own warehouse capacities which are additionally driving the fantasy here." In other words, beware declining demand from online retailers. Assuming ongoing rental increases, achievable yields are between 3.1% and 4.8% for the most modern, technically-advanced spaces.
Corporate real estate
In the corporate real estate sector, including production facilities, business parks and small-scale warehouse space, cash flows are generally considered stable, although the assets can be management-intensive. There is a current aversion to buying corporate real estate, due to the general investment climate and market uncertainty, but the sector will remain a yield-oriented alternative. Achievable IRRs range from 3.9% for warehouse-style properties to 5.88% for properties suited for light-industrial production. This is the highest yielding segment in the study. But investors should be aware that the asset class is among the least liquid and finding buyers for an exit can be difficult.
Of course, for the truly brave or adventurous, there is always the option of buying non-core properties with big visible deficits and unstable letting structures, such as high vacancy or lousy location. For such properties, the big question mark is also their energy status, and what it will take to make them compliant. These assets require a real expertise if they are to prove fruitful - they've got problems, and just a rising market won't solve them. But if magic can be worked, offices for example could yield up to 9%, while for non-core operator properties up to 13% is achievable on very short leases.
