Ugly No Barrier for Apartment Sales in German Boom: Mortgages

Ugliness No Barrier for Apartment Sales as German Market Booms
Plattenbauten are now hot property, caught up in a German real-estate boom driven by foreign investors seeking a safe, if not pretty, place to put their money. Photographer: Matthias Rietsche/AP Photo

With small windows, low ceilings and drab facades, the concrete apartment blocks favored by East Germany’s communist regime are known as Plattenbauten for their prefabricated panel construction. Now they are hot properties, caught up in a German real estate boom driven by foreign investors seeking a safe place to put their money.

A sale of 38,000 Dresden apartments owned by Fortress Investment Group LLC, many in the socialist-era estates, may be Germany’s next big residential deal after firms including New York-based Blackstone Group LP and Cerberus Capital Management LP made purchases that included Plattenbauten this year.

“German apartments are getting ripped out of people’s hands,” said Andre Adami, residential investment analyst at Berlin-based research firm BulwienGesa AG. “For every portfolio on sale there’s plenty of demand.”

Foreign investment in Germany’s housing market surged this year as private-equity firms, insurance companies and pension funds seek better returns than bonds while avoiding countries roiled by Europe’s debt crisis.

Buyers from abroad make up about half the purchases of German residential properties totaling more than 10 units. They spent 3.3 billion euros ($4.2 billion) in the first half, the most since 2008 and more than the 2.4 billion euros invested during all of last year, according to data compiled by broker Jones Lang LaSalle Inc.

‘Attractive Assets’

“German residential is one of the more attractive asset classes in Europe,” said Roger Orf, Europe head of real estate at Apollo Global Management LLC, the New York-based private-equity firm that owns 15 percent of Deutsche Annington Immobilien AG, Germany’s largest residential landlord.

Buyers of large residential holdings should have plenty of choice as investors including private-equity firms sell almost 100,000 apartments this year to repay debt taken on before the market peaked in 2008. Loans for the deals were typically packaged and sold as commercial mortgage-backed securities. About 8.8 billion euros of German multifamily CMBS is set to mature by the end of 2014, according to data compiled by Bloomberg, putting pressure on owners to sell or refinance their real estate holdings.

Blackstone in March agreed to buy about 8,000 apartments, many of them in eastern German prefabricated apartment blocks, from insolvent investor Level One. In May, Cerberus agreed to buy 22,000 homes from Speymill Deutsche Immobilien Co., another insolvent company, through a 985 million-euro debt restructuring. The properties, mostly located in western Germany, also included some Plattenbauten.

TLG Sale

Other foreign investors that have bought or bid for German apartment portfolios this year include Goldman Sachs Group Inc.’s Whitehall Street Real Estate LP, London-based Benson Elliot Capital Management LLP and European pension funds.

The government’s sale of its TLG Immobilien GmbH real estate unit is attracting interest from investors including Blackstone and Morgan Stanley, four people with knowledge of the matter said last month. TLG’s commercial and residential properties are valued at 1.86 billion euros, according to the sales prospectus.

“Plattenbauten are very efficient,” said Christian Schulz-Wulkow, a partner at Ernst & Young Real Estate GmbH in Berlin. “You can buy lots of product in one location and you end up with 1,000 apartments that are very similar and can be managed in the same way.”

Underperforming Properties

Gagfah SA, a company controlled by Fortress, purchased the Dresden apartments from the city’s government in 2006, near the peak of the market, for about 1.7 billion euros. Like other foreign companies that bought at the height of the transaction boom, New York-based Fortress was left with assets that failed to deliver the rental income and sales proceeds to justify the high prices.

Gagfah now plans to sell the homes for at least their book value of 1.8 billion euros to help pay down 3.1 billion euros of debt due next year, the company said Aug. 13.

The property boom is boosting the shares of Germany’s publicly traded real estate companies. Mutual-fund managers such as Vanguard Group Inc. and Edinburgh-based Scottish Widows Investment Partnership have added to their German residential holdings, helping drive up prices of the five largest companies by market value by an average of 55 percent this year. In that time, Germany’s DAX Index has gained about 19 percent, while the U.K.’s FTSE 100 Index has risen 3.5 percent.

Favorable Outlook

“Which other sector has growth right now?” said Vicky Watson, an investment director at Scottish Widows, which owns German property stocks TAG Immobilien AG and Deutsche Wohnen AG. “A year ago, people were talking about how cheap German stocks are, but now we’re talking about what companies can do about making acquisitions and reducing vacancies.”

German real estate is being lifted by a growing economy and a favorable outlook for the market, according to Paer Hakeman, head of Germany for Stockholm-based Akelius Fastigheter AB. The Swedish property investment firm owns about 1 billion euros of homes in the country and in July it bought 300 Berlin apartments.

German unemployment is at a two-decade low and the economy will probably expand by 1 percent this year, according to the country’s central bank, the Bundesbank. The European Commission estimates the euro-area economy will shrink by 0.3 percent.

Berlin, Munich

Real estate in Germany is cheaper than many other European countries. Apartments cost an average of about 2,000 euros a square meter in Berlin and 3,600 euros in Munich, Germany’s most expensive city, according to data compiled by Jones Lang. That compares with 7,000 euros per square meter in Paris and 9,500 euros per square meter in London.

Price gains have accelerated over the past three years. In Berlin and Munich, where the boom has been the strongest, values have gained 16.8 percent in the last 12 months, according to Berlin-based online broker ImmobilienScout.

More German individuals are also buying homes, adding to the competition for properties, as they shield savings from the European debt crisis, Hakeman said. It’s seen as an inflation hedge, with land and buildings predicted to retain their value even if the crisis causes the euro to depreciate against other currencies, he said.

Germany has one of the lowest homeownership rates in Europe at about 46 percent. That compares with 84 percent in Spain, according to data compiled by the Munich-based Ifo Institute and about 65.5 percent of Americans that own their homes.

Alternative Investments

The German market has become more attractive at a time when investors are facing low investment returns as U.S. and European central banks keep interest rates at record lows. Rental income from a typical apartment building in central Berlin yields about 6 percent a year at current prices, BulwienGesa’s Adami said. Investors earn 1.35 percent with a German 10-year government bond.

Demand for apartments in large urban areas is soaring as Germans move out of the countryside to cities where they can find jobs more easily.

“German residential pans out because, while the population is shrinking, the number of households in urban areas is growing,” said Leonard Geiger, director of European research at Cohen & Steers Inc., which owns about 5 percent of Deutsche Wohnen. “There’s limited downside,” he said.

The number of households grew 5.8 percent in Frankfurt and 6.4 percent in Cologne in the past decade as more people chose to live alone. New apartment construction hasn’t kept up with the growth because high building costs reduce the profit generated by rents, Adami said.

Housing Shortage

This is creating a shortage of housing in cities that are popular with buyers, said Niels Nielsen, chief executive officer of Danish investment firm Core Property Management, which has funds with about 1 billion euros in Germany.

“Our model has been to buy in cities where you see a long-term housing deficit,” such as Frankfurt, Hamburg and Cologne, he said. These places build about half the number of apartments they need each year, he said. “It’s just a question of supply and demand: the deficit results in an increase in rental levels.”

Rents are already shooting up in Germany’s largest cities, rising 8.3 percent in Berlin in the past 12 months and 6.4 percent in Hamburg, according to ImmobilienScout.

Foreign Backlash

Rising foreign investment has rekindled a backlash that began during the investment boom that preceded the global financial crisis. In 2005, some Germans began describing private-equity investors as “Heuschrecken,” or locusts, accusing them of buying homes to cut maintenance costs and raise rents with no regard for tenants.

Dresden’s government won a 36 million-euro settlement from Gagfah in March after accusing the company of violating tenants’ rights. In the southern German state of Bavaria, where state-owned bank BayernLB is selling homes valued at 2 billion euros, local politicians including Nuremberg Mayor Ulrich Maly have said they plan to raise funds to compete with bids from financial investors.

The spike in investor interest has raised concern that the flood of foreign capital may lead to more volatility, Piet Eichholtz, professor of real estate finance at Maastricht University, said at a conference in June.

That was the case in 2009, when German real estate transactions crashed following the collapse of Lehman Brothers Holdings Inc. Foreign investment that year dropped to 600 million euros after reaching a high of 10 billion euros in 2005, according to data compiled by Jones Lang LaSalle. The EPRA/NAREIT German stock index, which reflects trades by foreign and domestic investors, plunged from a peak of 1,470 in February 2007 to 237 in November 2008.

Debt Repayments

Some foreign companies that bought during the boom took large loans that they are now struggling to pay off. German CMBS are among the worst performing in Europe, according to Fitch Ratings. About 47.2 percent of German CMBS loans are fully performing, compared with a European average of 62.5 percent.

Recent price gains might also be the beginning of a bubble, said Steffen Sebastian, head of the Real Estate Institute at the University of Regensburg.

“Investment in the German home market right now has a strongly speculative character to it, and that’s what makes it risky,” he said. Cheap financing, fear of inflation and a dearth of investment options elsewhere are driving home prices to “ludicrous” levels in some parts of the country, Sebastian said.

“Especially foreign investors see Germany as a safe haven, but it’s not like the German real estate market is separate from the rest of Europe,” he said.