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The Reit stuff

Real estate investment trusts are set to bring about a pan-European property market

Real estate investment trusts have finally been given the go-ahead and should be introduced in the UK from January 2007.

Together with positive news on the introduction of Reits in Germany, Italy, Sweden and Finland, the property investment landscape is set for a seismic change. Reits are one of the most anticipated investment vehicles to be introduced to the UK property market and will transform the way that investors can access property. Following their long-term success in the US, Australia, Japan, Netherlands, Belgium and more recently France, 72 per cent of the global real estate market is held in a Reit-type structure. When the UK follows suit – and probably Germany at some stage in 2007, the proportion will rise to as much as 90 per cent.

The UK Reit structure will be open to companies resident in the UK that are listed on the stock exchange. The underlying fund will be allowed to invest into any type of investment property. The introduction of the Reit structure will broaden the opportunities available to the retail investment market, which has had only limited access to commercial property. Reits will offer significant tax advantages so it is likely that investment interest will increase and they will become the main route for investors to get access to property.

We expect to see an increase in transaction activity next year as companies adjust in the run-up to launch and there is some evidence of streamlining of portfolios. With higher levels of dividend and increased transparency, investors will focus on the efficiency, or value creation, of the business.

What will be the impact of Reits be on listed property companies? In France, quoted real estate stocks moved from being traded at a discount to net assets to being traded on a premium basis because investors saw the advantages of the new structure. We are likely to see the same pattern in the UK. It is also likely that commercial and industrial companies will look to move property assets off their balance sheets and into a Reit structure, increasing the number and size of investable quoted real estate sector.There is likely to be a significant increase in M&A activity in the listed property market over the next few years. Companies that trade at a discount could be more easily acquired by better-managed and more efficient peers. This will lead to the creation of more specialist Reits focusing on specific types of real estate or geographical locations.

Reits are likely to lower the volatility of the quoted property sector. More of the total return will be accounted for by income, as 95 per cent of rental profits will have to be distributed to shareholders in dividends. We estimate the UK sector could see dividends rise by 75 per cent, producingyields near 5 per cent. This will provide return and volatility characteristics more in line with the underlying property assets. Also, UK Reits should be eligible to be held in Isas, Peps and CTFs.

The rollout of Reits across other European countries such as Germany, Italy and Scandinavia will offer investors significant new opportunities. France, Belgium, and the Netherlands have clear, tax-efficient Reit structures. We are starting to see the development of a pan-European property market. In terms of total returns, our long-term forecast for European direct property is 7.8 per cent compared with 6.9 per cent for the UK. With Reits benefiting from gearing, we would expect a higher return of around 10 per cent.

Reits in Germany will have a particularly dramatic effect as it is Europe’s biggest property market but has a very small quoted sector at present with only five liquid traded real estate companies.


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