SWFs eyeing distressed home sales in the West

Sovereign wealth funds (SWFs) are now increasingly buying into real estate assets sold by distressed sellers and on deals that are out of reach for debt-reliant buyers.

SWFs may have bought a number of landmark buildings in the West in the past, but the latest sellers to these funds are thousands of declared foreclosed homeowners across the US and countries in Europe, selling at a huge discount to what was on offer just a few months ago.

The Abu Dhabi Investment Authority (ADIA), one of the most influential SWFs, declined to comment on its real estate-owned (REO) investments when contacted by Emirates Business. "ADIA does not currently disclose details of investment strategy for competitive reasons," said the fund.

However, a report in the Western press claims the fund is expected to announce this month what type of American distressed assets they would be investing in and real estate seems at the top of the list.

Qatar Investment Authority (QIA) also refused to comment on the subject. Muhammad Ali Yusof, the fund's financial analyst, declined to speak to this paper. "I'm not in a position to talk to the media," he said.

"Distressed real estate in the US and in the UK has attracted numerous end-users and speculators across residential and commercial properties. SWFs would definitely take advantage of their liquidity muscle to purchase larger blocks of realty at a significant discount, especially since the rental yields have become more attractive," Danish Chotani, a senior banker in the region, told Emirates Business.

And it makes for a perfect diversification strategy. "SWFs are investing in real estate across the globe as a diversification strategy; they would be more interested in ROI [return on investment] on the larger portion of their investments than simply parking funds," said Chotani.

Indeed, latest figures released by Nationwide, a UK-based real estate research firm, the average property in the UK has lost more than a tenth of its value over the last year.

QIA, for one, is reportedly evaluating buying commercial properties in the US that are financially distressed. "We anticipate several opportunities in the US for mezzanine financing, and individual distressed assets," Navid Chamdia, head of real estate at QIA was quoted as saying last quarter.

"We are looking at a number of these opportunities with several partners," he said.

Average property prices have fallen across the UK by 10.5 per cent over the course of the last year, and, the pace of decline is accelerating. While prices fell by an already dramatic 1.5 per cent in July, this accelerated to 1.9 per cent in August, with activity "very subdued", according to Nationwide.

This is the first time falls have entered double digits since 1990, Nationwide confirmed. Furthermore, prices have now fallen for 10 months in a row to the lowest level recorded since early 1996. As a result, the average property in the UK now costs £164,654 (Dh1.7 million) – well below the figure of £183,898 recorded a year ago.

The situation is dire in the US as well, where more than 272,000 homes received at least one foreclosure-related notice in July, up 55 per cent from about 175,000 in the same month last year and up eight per cent from June, according to RealtyTrac.

Currently, there are about 2.1 million homes lying vacant and on the sales block at the end of the second quarter of this year in the US, according to US Census Bureau data. In normal times, there would be only 1.3 million homes for sale. According to the National Association of Realtors, the median national home price in June declined 6.1 per cent from a year ago to $215,100 (Dh789,417).

The situation is being exacerbated with banks and financial institutions unable and/or unwilling to offer mortgages, especially in a falling market. Figures from the UK's Council of Mortgage Lenders revealed the slump in mortgage lending continued in earnest during July, with total lending at £24.8bn, down 27 per cent over a year ago.

And that is where SWFs are seeing an opportunity. SWFs are indeed moving away from investing in their traditional comfort zone – vanilla US Treasury notes and bonds – and, heeding to calls for risker assets, are scouting for opportunities in the distressed real estate markets.

In a recent report in the media, one sovereign fund has already earmarked $29bn to buy foreclosed residential real estate in the US and has hired a West Coast mortgage brokers to search for deals. The search is focusing on single and multi-family real estate-owned homes, or homes that have already been taken over by the bank.

SWFs are investing in real estate in the same way they have invested in troubled financial institutions over the last 12 months. The downward spiral in property, both commercial and residential, means funds can put their money in this sector when prices are really low, wait a long time and then sell maybe after a decade when the next property boom is at its height, reaping huge profits. They seem to be here for the long-term, say experts.

With a weak US dollar and REO accumulating fast, sovereign funds are looking for the dollar discounts in residential and multi-family property.

Prices on bulk sales of REO properties vary depending on location and are selling from 60 cents to 80 cents on the dollar, it was reported in the US press.

"The consensus view among analysts is that the outlook is bearish [for the realty sector in the US] in the short-term but the sector is expected to rebound and have healthy growth prospects in the long-term [making sense for SWFs to invest in this sector]," said Neven Hendricks, Regional Managing Partner for Financial Advisory Services in Deloitte and Touche Middle East.

"Value investing, which also provides a decent rental yield, is a medium to longer-term investment plan. In the shorter term, I would not expect any returns, but there would be few exceptions to that rule," added Chotani. Experts that Emirates Business spoke with also refute claims that the current realty-buying spree by SWFs could be a repeat of Japanese "white elephant" real estate purchases in the 1990s leading to losses.

"Japan's property bubble was fuelled by cheap money and financial liberalisation.

As in recent years in America, most real estate investors in Japan assumed that property prices would not fall on a national scale. When real estate prices plummeted, borrowers defaulted and banks cut their lending – the result a decade with an average growth rate of less than one per cent," said Hendricks.

"Most analysts dismiss the idea that the US could suffer the same fate as Japan and have overemphasised some of the differences. For example, there are claims that the Japanese bubble was much greater than that of the US. However, empirical data indicate that average house prices in the US rose by 90 per cent between 2000 and 2006 compared with 51 per cent in Japan between 1985 and early 1991. I would say that the 'jury is still out' on this," said a cautious Hendricks.

"I think consumer demography and spending habits differ from those that affected the Japanese economy, plus the fact that monetary and economic solutions for recessionary markets are now capable of turning around investor sentiment in the medium-term," said Chotani.

Balancing real estate investments in the Western nations and investing in properties in emerging markets such as China, Russia and India also seems a pragmatic and calculated move by SWFs.

"SWFs have been moving increasingly into emerging markets. However, one should also bear in mind that SWFs might also want to invest in mature markets as an investment diversification strategy," Hendricks said.

"Value investing in growth economies should be the current strategy, and one of the most important elements of investing in emerging markets should be transparency in the realty sector. A well diversified global

real estate portfolio for stable and consistent returns in the longer term is preferred," added Chotani.