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Why do family offices prefer local real estate investment?

Real estate was the best performing asset category for family offices, thanks to quantitative easing and low interest rates. But why is a home-market bias so strong?

Family offices prefer to invest locally for both commercial and residential property, despite an expectation that returns are higher further afield, according to The Global Family Office Report 2015

The report found that on average family offices have 46% of their real estate allocations assigned to local investments (within their country) and a further 29% in their region, compared to 25% for international investments; while the average office has 13% of its total portfolio allocated to real estate. 

The skill set of investment staff was identified as a possible reason for the home-market bias, as many family offices prefer to seek real estate investments through in-house teams, who might lack international expertise. 

Basil Demeroutis, managing partner at FORE Partnership, a co-investing platform that allows families to club together to purchase predominantly commercial property, says the bias for local real estate investment is so common that it is often a source of discussion at the London-headquartered firm. 

“We have families who are based in, say, Frankfurt and they have a lot of real estate in Frankfurt. So we ask them, ‘Hey, why have you never invested in Berlin?’, and you might as well be talking about Siberia,” he says.

He added: “They are concerned that they don’t know who the right agents are, and who’s a good notary, and simply say, ‘we’d rather not’. And so we smile about it, but I’ve heard that time and time again.”

Demeroutis, a former partner at Capricorn Investment Group – the $5 billion family office created by anchor client Jeff Skoll – added that expertise at home is no bad thing and could lead to ownership of big chunks of the market, which allows family offices to control rent and liquidity, but at the cost of diversification. 

“If you’re only investing in skyscrapers in Frankfurt, there will be a time when that doesn’t look like such a clever thing to do, and maybe that investment in Berlin would provide a bit of diversification. Home-market bias is good on the one hand, but a bit of diversification wouldn’t go amiss.”

Liam Bailey, global head of research at property consultancy Knight Frank, agrees with the findings as well as with Demeroutis, but added that the globally-focused investor’s definition of “home” can include foreign markets. 

“Property is a relatively illiquid investment, it is more complex than equities and bonds and therefore most investors prefer to focus on markets they know well. That said, the definition of “home” can be far flung, investors from Singapore may well feel they know London better than other cities in their own region and will be happy to invest there”.

When asked if family offices should invest in unknown foreign markets, Bailey says the latest crash showed the risk of looking for the “next new market”, with many hit hard by the global recession, forcing family offices to return to more established markets. 

“It takes effort and time to explore new markets, hence the preference for most investors to stay relatively safe and focus on known markets. If you are to explore a new market the best advice is to narrow down your options based on an investment narrative you believe in – then spend time assessing values and options in one or two markets rather than dozens,” he explains. 

This year’s family office report also found that the real estate asset category helped family offices to mitigate lower than expected returns elsewhere in their portfolios, due to a slowdown in equities. Actual returns for real estate in 2014 were found to be just above 14%, while the worst performing asset category, commodities, saw an 18% loss.  

In Europe, this allowed family offices to produce the highest year-on-year returns of all regions (6.4% in dollar terms), thanks to their significant holding in the asset category. 

One participant in the study said that real estate returns had been “turbo-charged” by accounting practices that saw family offices write off a lot of real estate value during the recession, while another participant, the vice chairman of a global family office group, argued that the performance was supported by quantitative easing and low interest rates. 

Demeroutis explains why this trend is set to continue: “In order to return to normalised interest rates there needs to be around 20 quarters of 25 basis point increases in the bank rate. And rates are going down not up in Europe. I just don’t see interest rate increases happening for twenty successive quarters. We’re years away.”

He continues: “However, I do expect that the Bank of England will probably raise rates in the next 12 months, and the same in the US, but don’t be under any illusion that rates will normalise any time soon. What that means for real estate is the wall of capital that has pushed values up through these distorting actions by the central bankers. I see that continuing frankly.”

Bailey adds: “The impact of quantitative easing and interest rates on real estate will depend strongly on the speed and rate of the increase. The signs at the current time are that any rise will be slow and extended.” 

While investment advice was beyond the scope of the research, Demeroutis was happy to share his predictions for real estate. “I think fundamentally real estate is in very good shape, thanks to rising rents, rising employment, and given its high correlation to GDP, expanding economic growth.” 

“All these fundamental factors are great for real estate, so we just need to not over pay for them. And I think that really is the crux of it. [There will be] lower rates for longer, more capital flowing into the market, which means yields stay low, but fundamentally it is a good place to invest.”  


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