Core investments will continue to find backing

INDUSTRY INTERVIEW: Keith Burman, Senior Vice President, Global Alternatives Product Manager, Brown Brothers Harriman, Luxembourg, is one of the senior figures I like to consult on real estate matters.

Keith attended the recent Global Real Estate Institute Europe Summit 2011 (GRI) in Paris. He kindly agreed to an interview on Sept 13th by RealCorp’s Head of Communications, Tia Azulay, to share his impressions.

1. You’ve just attended the Paris GRI Summit. Do you go every year?
   Yes, I’ve been attending since 2009. I find it a very interesting format for a conference because it is all set up as discussion groups rather than as panels or lectures, apart from a few keynote speeches. In advance of the conference, someone thinks of a topic, and then gets five or six people to commit to being there to initiate and moderate discussion on that topic. Anyone can sign up to attend, but because so many people have been personally invited, the quality of input is high, with many senior people participating. Several of my clients and prospects also attend, and the conference provides plenty of networking time, which is very useful.
2. What did you do at the conference this year?
   For the past few years I’ve been part of a group facilitating discussion on the impact of European regulation initiatives, with a focus on AIFMD (Alternative Investment Fund Managers Directive) of which I have personal knowledge having been involved in its development, along with Mike Hornsby of Ernst & Young (Luxembourg) and Jeremy Soutter of Aviva Investors. This year, we were joined by Catherine Martougin, partner of the Luxembourg law firm Arendt & Medernach, and Peter Cosmetatos of the British Property Federation, so we were five co-chairs. Group sizes can vary. This year there were about 20 participants in our group, which was 10% of the total conference attendence of around 200 people. It was not as large a turnout as we had had in previous years, but, on the other hand, the smaller group size enabled some really fruitful discussion.
3. What were your expectations of the conference before you got there?
   I anticipated that it would be good to see various clients and prospects, but I also wanted to know what people were thinking generally about the prospects for the market and how the industry is doing. Naturally, I hoped to see signs of optimism and to find out whether people are finding deals and managing to raise capital.
4. Were these expectations fulfilled?
   Yes, although there was a mixture of impressions. There was a general feeling that we are not out of the woods yet. Activity had definitely picked up in the first half of 2011, with people doing more than in 2010 despite the continuing lack of finance, but there was stasis over the summer due to all the bad news, particularly the downgrade of the US credit rating and the obvious problems with Greece, Italy, Portugal and Spain creating the threat to the Euro. Nevertheless, there is clearly still demand for prime property.
5. Did you learn anything of particular note?
   Yes, there were a few important insights. It is perhaps not surprising that people have been putting money into core investments that are low-risk, stable and well-let, even though these offer relatively low returns, but what was unexpected is that the flow of money into this kind of property in London led to that market actually becoming overpriced by 2011, with the result that investment focus moved to Paris, and then, when that heated up similarly, to the major investment centres of Germany (Hamburg, Berlin, Frankfurt, Munich, Stuttgart, etc.). Another puzzling trend observed by an agent involved in investment transactions across Europe was that Spanish prime property appears to have no risk premium over London and Paris, i.e. it was selling at similar rates, despite people talking of increased sovereign risks. So for Spanish prime property, it seems that some people are ignoring macro indicators. However, it might be just Spanish buyers doing this in Spain — we did not have info on the buyer profiles.
6. What about responses to your particular discussion theme?
   Well, interestingly, the co-chairs discussed afterwards that perhaps our session should have been differently titled. We called it “Regulated Funds”. Of course, many people still have unregulated funds, so may have thought that it didn’t apply to them. But if so, they’re in for a shock. From 2013, almost all funds will be regulated — they will be affected by Solvency II (Insurance Investors), AIFMD (Alternative Fund Managers) and EMIR (central clearing of derivatives). This will inevitably change the way that a lot of people do business and has implications for manager substance¹, fund design, capital raising, delegation, valuation, property ownership and the sourcing and timing of financing. Time is short, as the implementation deadline is July 2013, and the necessary changes will take considerable effort to understand and accommodate. It’s not all bad news, as the AIFMD will provide a clear and hopefully efficient legal framework to distribute funds to professional investors in 27 European Union Member States, which should give managers access to a wider pool of capital, and reduce the current risks of non-compliance with individual countries’ private placement² rules. And, over time, if AIFMD can emulate the success of the UCITS framework, this may lead to easier selling into non-European markets, for example, in Latin America and Asia.
7. Did you learn of any other impacts on business from the regulatory moves?
   Well, another group I joined engaged in a discussion on cross-border valuation. There is general agreement that more must be done to improve standards and consistency, and regulation definitely will both push and enable this to happen. AIFMD has a lot of focus on valuation and is tending to require standards and information that are useful for both lenders and investors. For instance, we consider it important that a valuer knows the use to which a valuation will be put. Although the opinion of valuation should of course be the same, no matter the client, lenders and investors need different emphases in the commentary that accompanies the valuation. The lender typically needs a three-to-five year overview of likely trends in value, which valuers have understandably been hesitant to give, but they will have to develop this skill in future. A related issue is the availability and cost of Professional Indemnity Insurance (PII) in all the countries affected. Everyone noted that the environment in the UK has become increasingly litigious, which is making business more difficult. There is an estimate that 25% of gross valuation income is paid out on PII premiums. The focus on more regulation could lead to these costs rising, to more insurers withdrawing from the valuation PII market, and to fewer profesisonal firms being willing to do regulated valuations. In some European countries, PII is not readily available at all, so this is really problematic if the new regulations demand it. On the other hand, harmonisation of standards could allow some useful consolidation and centralising of resources, although firms will still need access to local market information to produce accurate valuations.
8. Did you draw any general conclusions from the conference?
   Although it was easy to see why some people remain very pessimistic, saying that the lack of finance, imminent sovereign collapse, the end of easy money for banks and the increasing inflation rate add up to a new ‘perfect storm’ of which 2008 was just the precursor, on the other hand, there is still demand for income-producing investments, and no sign of the big banks needing to unload their portfolios in the short term, because interest rates have remained low. Despite inflation, the current cost of finance benefits the banks, so I believe that they will continue to reduce their loan portfolios slowly and carefully and core investments will continue to find backing.

Notes:
¹Manager substance = Fund managers’ capacity and resources to satisfy their fiduciary, tax and regulatory obligations
²Private placement = Selling one-to-one to “professional investors”, normally institutions, outside the rules for “public placement” i.e. selling to the general public, which is highly regulated and restricted

Keith Burman
Keith is Brown Brothers Harriman’s Global Alternatives Product Manager, responsible for strategic business development, including new clients, services and domiciles. Keith joined BBH Luxembourg in 2004, after nine years with JLL/LIM. Keith is a member of RICS, IPF and IOD, chairs the Association of the Luxembourg Fund Industry (ALFI) AIFMD Committee and REIF Sub-Committee, and sits on INREV’s Public Affairs Committee and RICS Belux Board. BBH’s Investor Services provides cross-border institutional services as depositary, fund administrator and transfer agent for many leading asset managers and financial institutions in 100 markets with €2 trillion of assets in custody.