Real estate funds may cheer up markets

The growing appetite of both private and corporate investors has created an auspicious environment for a new investment vehicle - real estate funds - to enter the market.

Stable cash flows provide these new funds with predictable and transparent yields, giving them an edge over equity funds. To entice investors, real estate funds have been lowering the entry fee for immediate real estate trading and increased liquidity.

For local investment institutions that have not developed their own investment schemes, real estate funds are proving to be quite attractive.

Although its previous attempt in the beginning of 2002 failed due to lack of interest, Arco Kapital's real estate fund - Arco Kapital 2 - launched in December managed to raise 6 million kroons (383,000 euros).

Arco Kapital 2 basically offers exposure to Tallinn's commercial real estate market by becoming partners with companies that are already actively engaged in the real estate market.

The fund states that it will shoot for an average annual return of 20 percent over a five-year period - no doubt a lofty promise in this low-interest-rate environment and one of the chief reasons why investors who were not lured the first time around have decided to take the plunge the second time around.

However, many potential corporate investors may refuse to invest in the fund since Arco Kapital 2 managers actively participate in real estate development, a situation which has potential conflict of interests ramifications.

Another real estate fund, Baltic Property Trust, a closed fund founded on Danish capital, entered the Estonian market at the end of 2001, and one year later it acquired its first property - the Hobujaama office building, giving it an 11 percent return.

Fund managers said they were planning to acquire another property in Estonia in the near future.

Baltic Property Trust's Secura fund, which has been widely advertised since September 2002, offers investment opportunities throughout the Baltics, and the planned volume of investments exceeds 1.5 billion kroons, including loans and properties subject to mortgage.

About 35 percent of Secura's money will be placed into Estonian real estate, and the expected average annual profit would be 11 percent, according to managers.

Should the planned program of Secura be implemented in full, the Tallinn market for elite office buildings will become much more lively, with both liquidity and value increasing.

Also, in the long term local pension funds could gain exposure to real estate investments, though they will be limited to only 10 percent of total assets (or even 5 percent for obligatory pension funds). So if by the end of 2003 aggregate assets of Estonia's 15 pension funds will vary from 700 million kroons to 900 million kroons, the maximum this group of funds will be able to invest into real estate will be around 50 million kroons.

Taking into account this relatively modest potential contribution and certain restrictions for the pension funds, it is not reasonable to expect their active interest toward real estate investments in the next couple of years.

According to experts at Uus Maa, a real estate bureau, the demand for commercial property will be largely satisfied over the next two years (save for demand for contemporary storage and production areas, both of which are considered to be too risky due to cyclical demand).

The most attractive real estate investments are now related to residential areas and land plots, say experts.

The prices in old residential areas have grown and now make up to 80 percent of the new residential property prices. Therefore, demand for cheaper new residential areas is on the rise.

Uus Maa advises investors to keep an eye on real estate sectors such as Tallinn Old Town, land plots usable for residential construction in the city center, land plots next to main roads (Parnu Road, Tartu Road, Petersburg Road) and land plots in the beach area.

But not all is rosy for property speculators. For most owners of arable land the original value of their property is now close to zero. Many of them acquired land in order to resell it later after a rapid price hike expected to come after EU accession, with the thought that those few buyers who would need to acquire arable land after 2004 would either accept the bloated price or give up the idea of buying land at all.

But as the liquidity of arable plots is marginal, and prices high, speculators may have to hold onto their acquisitions for substantially longer than they would like.