Investing in the Baltics 's Is there an alternative to real estate?

  • 2006-07-26
  • By Kristine Kolosovka
In recent years the Baltics have shown outstanding economic results, which in turn have been accompanied by the dynamic development of the investment market. Not long ago the public grew accustomed to the securities market, investment funds and pension saving system. Third party private portfolio management even became possible just about two years ago.

At the same time the Baltics unleashed a booming real estate market (despite some price stumbles in Lithuania and Estonia recently). Nowadays it is hard to imagine that five years ago it was almost impossible to get a mortgage on a house, or to see real estate investment transactions by an institutional investor.

Yet the Baltic investment market is still considered to be very small. Currently, the major investors are still local financial institutions. Pension funds gradually began to play a major role as well. However, with over 100 million lats (142 million euros) in net asset value tight in pensions, it is becoming a difficult task for the fund managers to allocate new funds in order to meet the requirements of the law. The shortage of investment grade securities is obvious in the market.

Local institutional investors have made a large scale presence on the real estate market. There are few closed-end real estate funds that generally are unable to become important market players yet. The main reason is that the commercial real estate investment market appears to be under performing. There are just a few transactions closed by institutional investors. Yields are providing double digit returns, as expected, and investment-grade properties are severely overpriced and scarce. Investors face the fact that the majority of developers are reluctant to sell their properties and often offer their properties at 50 percent higher than their corresponding market value. So many got surprised when offered opportunities in retail and office properties at 6 's 7 percent yields.

The real estate market for private investors is more speculative in nature. In this regard the Baltics have experienced an unprecedented interest from private individuals from the U.K., Ireland and Scandinavia who wanted to reap the benefits of a fast growing region. These kinds of investors are usually interested in small scale transactions with residential properties, capitalizing on low interest rates and mortgage availability. Over 50 percent in average residential real estate price growth over the last few years makes it a hot game that almost everyone can afford to play.

The recent tendency, however, is that the high net-worth individuals who made a successful real estate investment do not hurry to rush back. At the same time private securities portfolios sell very well. As private portfolio manager at SEB Unifondi, Konstantin Antopov puts it, "Many of our private portfolio clients turn to securities from real estate, because they want to diversify and to manage the risk." Many do not believe in continuing double digit growth, he adds, and they "perceive the existing market as inefficient and with limited opportunities, despite the growth in prices."

So far securities investment funds available to the public have been able to meet expectations. The local stock market indexes even showed double digit returns in 2004-2005. Meanwhile, investment funds linked to foreign market stocks were unable to overcome the 15 's 20 percent annual return benchmark over the same period. However, as the Baltics become more and more integrated into global markets, their performance becomes more correlated and affected by market swings, reflecting both booms and crashes.

Kristine Kolosovka is head analyst at Bridge Capital.