The investors expects stable returns

“The investors expects stable returns”

“Places & spaces” interview with Dr. Reinhard Kutscher, member of the board of directors (Oktober 2004)

What’s your view of the situation on the real estate markets, do you think we are over the worst now?
It depends – you’d have to judge each country and city individually. Germany, which is still the focus of our investments, is with certainty one of the most difficult countries around, because it has a lot of vacant property and falling rents for office space. But were the right conditions to be in place, there could soon be stability again. I am confident that the German real estate markets will start performing better again in 2006/2007.

Does this mean that Germany is once again a buyer’s market?
Merely on the basis of its current position in the cycle, Germany should currently be a good market for investments. And I’d go even further – now would actually be a good time to focus on investments in project development because of its long lead time. Anyone hitting the market with a project in three years’ time will probably have got their timing right. We also see opportunities for existing properties in Germany. After all, we have continued to buy in Germany this year and last year, mainly retail space, but office space as well. Of course, we’ve always taken into account the strategies of the particular funds.

What does this mean for DIFA’s strategy?
The “DIFA-Fonds Nr. 1” focuses on Germany – and that will continue. The fund is currently receiving income from matured investments and is therefore investing with the necessary caution. In terms of the “DIFA-GRUND” portfolio allocation in Germany, Europe and the world - we’re not yet quite where we want to be in the medium term. Therefore, our investment plans for this fund are focused on foreign markets. At the moment, we’re buying mainly completed, leased properties because in this difficult situation we’re concentrating on the returns and want to invest the cash as profitably as possible.

Which German markets will
DIFA focus on? In Germany, we will focus on the big economic centres but also medium-sized cities to get the right mix. We’re already present in the big centres with our regional offices. That’s very useful, since the regional teams are managing the respective holdings and have the required market knowledge.

If one were to believe research experts, then basic vacancy rates are increasing in Germany.
That’s true. We will get a higher basic vacancy rate – but that’s not a disaster. Vacancy rates between eight and 10 percent are normal in the US. This won’t happen in Europe, but we’ll have to get used to a basic vacancy rate of between four and five percent. Basic vacancy rates in Germany will be at that level – with the usual ups and downs of course

What are you doing about this situation?
First of all, we intend to stay ahead of the competition in the very tough rental market sector by offering high quality properties and by making innovative marketing moves. That will help our position. Secondly, we recognised years ago the need to work intensively on increasing tenant loyalty. That’s why we began installing regional offices as far back as the 1980s. DIFA works through an exten sive catalogue of measures right down to regular tenant interviews in order to be able to respond to our tenant’s needs and concerns quickly. Particularly in central locations and properties we offer our tenants a wide range of services – all to foster tenant loyalty.

And does it work?
Yes. We have an exceptional rate of lease renewals of over 50 percent. This brings a high level of stability to today’s difficult situation.

But you still have vacancies – how does this affect property valuation?
Our properties are evaluated prior to purchase and then every 12 months by a body of independent specialists. Risks of loss of rent due to uncertain subsequent lease levels or due to vacancy are taken into account by the experts. Depending on the type of property and the location, between two to eight percent are accountedfor. So, vacancies are already included in our calculations.

How does the situation look for selling real estate?
Sales are a necessary part of active portfolio management. Since the beginning of this year, we’ve sold five properties for a total of 245 million Euros. Currently, we are experiencing quite a special and unusual situation in the United States. Over the past few months, we’ve registered a strong interest on the part of US institutional investors even in well-leased properties in important locations such as Washington, New York and Boston. We’ll be making use of this unusual price war by selling in these locations rather than investing.

Where does the high demand come from?
It’s connected to the lack of alternatives. Investors have a lot to catch up on in real estate investments. They recognise that real estate might yield better returns than bonds or stocks. Next year, when interest rates increase, things might look very different. But we will make use of the opportunity now and get significant returns.

DIFA invests a lot in hotel real estate – what‘s so interesting about this segment?
It’s based on the need for asset allocation – after all, open real estate funds are designed on the basis of risk distribution. The investors expect stable returns – that‘s the basis for this product. We follow a clear strategy here and invest solely in business hotels in major conurbations and close to major airports. We only cooperate with major, if possible international, chains and operators who guarantee a certain stability. We also prioritise long-term lease contracts with fixed rents. These are mostly index-linked and, if possible, with opportunities for increased returns if things run smoothly. But we have safety features built in when things don’t go so well. Fluctuations in the hotel industry are very strong, and we don’t want to be fully dependent on them.

What is the percentage of hotels in the portfolio?
Hotels add an interesting mix to a portfolio. It’s possible to have between 10 and 15 percent hotel real estate in the funds. We’ve already achieved this with some. So all in all, it is a very interesting segment which has brought us some very good returns already.

Appreciations in open funds have only been moderate over the past two years – what’s in store in the future?
On the basis of our detailed analyses, we expect that returns will stabilise in the future after the decreases during the past two years. Those decreases were due to the general weakness of the real estate markets. And on a positive note, we are also expecting a slight increase in returns again starting next year.