Commercial Real Estate Investment, Second Edition: A Strategic Approach

435 Pages·2009·2.49 MB·English

by  Andrew Baum

Prelims:Prelims 9/4/09 10:39 Page i
Commercial Real
Estate Investment
A Strategic Approach
Second edition
Andrew Baum
2009
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Prelims:Prelims 9/4/09 10:39 Page ii
©AndrewBaum,2009
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Prelims:Prelims 9/4/09 10:39 Page iii
Contents
Forewordtothefirstedition
Prefacetothefirstedition
Prefacetothesecondedition
Part1Introductiontothemarket
1 Commercialrealestate—theassetclass ....................3
1.1 Property—aglobalassetclass?........................3
1.2 Whatmakespropertydifferent?........................5
1.3 Propertydepreciates..................................6
Box1:Depreciationanditsimpact ..........................8
1.4 Leasecontractscontrolcashflows .....................10
1.5 Thesupplysideisinelastic ...........................12
1.6 Valuationsinfluenceperformance .....................12
1.6.1 Valuationaccuracy.............................13
1.6.2 Clientinfluence................................14
1.7 Propertyisnotliquid ................................16
1.8 Largelotsizesproducespecificrisk....................18
1.9 Leverageiscommonlyusedinreal
estateinvestment....................................24
1.10 Ispropertyaninflationhedge?........................26
1.11 Volatilityandriskappeartobelow....................28
1.12 Realestatecyclescontrolreturns ......................30
1.12.1 Developments.................................32
1.12.2 Rents.........................................32
1.12.3 Yieldsandcapitalvalues........................33
1.12.4 Returns.......................................33
1.12.5 Cycles:theresultofmarketinefficiency? .........34
1.13 Diversification—theevidence........................36
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CommercialRealEstateInvestment
1.14 Challenges..........................................42
1.14.1 Thelimitationsofdirectrealestateinvestment.....42
1.14.2 Securitisationandglobalisation..................43
2 Themarket—andwhomakesit..........................45
2.1 Theglobalpropertyinvestmentuniverse...............45
2.2 ThevalueoftheUKrealestatemarket .................46
Box2:TheUKpropertymarketsectors .....................47
2.3 Marketplayers......................................50
2.3.1 Investors......................................50
2.3.2 Fundmanagers................................53
2.3.3 Advisors......................................56
2.3.4 Fundsandvehicles.............................57
2.4 Apropertyperformancehistory—theUK..............64
2.4.1 1950–73:fromlowinflationtoaboom ...........65
2.4.2 1974–81:asmallcycle,highinflation .............67
2.4.3 1981–89:highinflation,anotherboom ............68
2.4.4 1990–99:deeprecession,lowinflation
andglobalisation ..............................70
2.4.5 2000–06:boom.................................73
Box3:AbubbleinUKpropertyprices?.....................76
2.4.6 2007–09:bust..................................87
2.5 Conclusions ........................................91
Part2Theinvestmentprocess
3 Buildingtheportfolio....................................95
3.1 Introductiontoportfoliomanagement..................95
3.2 Absoluteandrelativereturnobjectives.................98
3.3 Thetop-downportfolioconstructionprocess...........100
3.3.1 Therelativereturntarget ......................100
3.3.2 Theabsolutereturntarget......................101
3.4 Settinginvestmentobjectives.........................102
3.4.1 Criteriaforinvestmentobjectives ...............102
3.4.2 Returnandrisk...............................102
3.4.3 Benchmarks..................................104
3.4.4 Timehorizons................................105
3.5 Strengths,weaknesses,constraints:portfolioanalysis ...105
3.5.1 Recentperformance...........................105
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Contents
3.5.2 Currentportfoliostructure.....................106
3.5.3 Strengths,weaknesses,constraints ..............106
3.6 Structureandstockselection.........................107
3.6.1 Structure.....................................108
3.6.2 Stockselection................................108
3.6.3 Passiveandactivestrategies ...................109
3.7 Usingforecastsandvaluationmodels.................110
3.7.1 Forecasts.....................................110
3.7.2 Valuationmodels .............................112
Box4: Portfolioconstruction—acasestudy ...............113
4 Pricingrealestate:thepurchaseandsaleprocess ..........121
4.1 Introduction .......................................121
4.2 Sourcingstock .....................................122
4.3 Duediligence:thebuildingpurchaseprocess ..........124
4.4 Apropertyappraisalmodel..........................124
4.4.1 Introduction:theexcessreturn..................124
4.4.2 Theinitialyield—asimplepriceindicator.......126
4.4.3 TheFisherequation...........................127
4.4.4 Asimplecashflowmodel......................129
4.4.5 Gordon’sgrowthmodel(constantincome
growth)......................................130
4.4.6 Apropertyvaluationmodelincluding
depreciation..................................130
4.5 Themodelcomponents .............................131
4.5.1 Therisk-freerate..............................132
4.5.2 Theriskpremium.............................132
4.5.3 Inflation .....................................134
4.5.4 Realrentalgrowth ............................134
4.5.5 Depreciation .................................134
4.5.6 ‘Correct’yields ...............................135
4.6 Arealanalysis .....................................136
Box5:‘Correct’assetclassyields..........................137
4.7 Therequiredreturn:additionalanalysis...............139
4.7.1 Therisk-freerateandtheyieldcurve............139
4.7.2 Therisk-freerate:bondandequity
components..................................140
4.7.3 Thesubsectorandpropertyriskpremium .......140
4.7.4 Example.....................................142
4.8 Forecastingrentsandyields .........................143
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4.8.1 Theoriginandusesofpropertyforecasts ........143
4.8.2 Forecastingnationalrents......................144
4.8.3 Forecastingatthelocallevel....................150
4.8.4 Forecastingyields.............................152
4.9 Forecastingpropertycashflows......................155
4.10 Modellingtheportfolioriskandreturn................156
4.10.1 Theportfoliomodel...........................156
4.10.2 Example.....................................156
5 Performancemeasurementandattribution................159
5.1 Returnmeasures:anintroduction.....................159
5.2 Definitions.........................................160
5.2.1 Thefuture ...................................160
5.2.2 Thepresent ..................................160
5.2.3 Thepast.....................................161
5.3 Example:IRR,TWRR,totalreturnorMWRR?..........163
5.4 Capitalexpenditure.................................165
5.4.1 Reductioninincome ..........................166
5.4.2 Increaseincapitalinvested.....................166
5.4.3 Timingofexpenditure.........................166
5.5 Risk-adjustedmeasuresofperformance ...............167
5.6 Attributionanalysis:sourcesofpropertyreturns .......169
5.6.1 Introduction..................................169
5.6.2 Whatisarequiredreturn? .....................170
5.6.3 Whatisthedeliveredreturn?...................171
5.6.4 Whyaredeliveredreturnsdifferentfrom
requiredreturns? .............................173
5.6.5 Summary....................................175
5.6.6 Example.....................................176
5.7 Attributionanalysisfortheportfolio:anintroduction ...177
5.8 Thechoiceofsegmentation..........................181
5.9 Style .............................................182
5.10 Themes ...........................................183
5.11 Cityselection ......................................184
5.12 Calculatingattributionscores ........................185
5.12.1 Twoorthreeterms?...........................185
5.12.2 Theformulae.................................186
5.12.3 Resultsfromdifferentattributionmethods.......188
5.13 Attributionandportfoliomanagement................189
5.13.1 Top-downportfoliobuilding ...................190
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5.13.2 Backingselectionskills ........................190
5.13.3 Specialistportfolios ...........................190
5.14 Alphaandbeta:anewattributionapproach ...........191
5.14.1 Sourcesofalphaandbeta......................192
5.14.2 Previousstudies..............................194
5.14.3 Anattributionmodel..........................196
Part3Investmentvehicles
6 Listedrealestate .......................................201
6.1 Whatislistedrealestate?............................201
6.2 Publicequityrealestate—thebackground............202
6.3 REITsandREOCS(propertycompanies) ..............203
6.4 Listedfundsandmutualfunds.......................206
6.5 Exchangetradedfunds(ETFs) .......................206
6.6 Dopropertysharesoffertheidealpropertyvehicle? ....207
6.6.1 Tacticalassetallocation........................207
6.6.2 Strategicassetallocation.......................211
6.7 TheUSREITexperience.............................212
6.7.1 Distributions.................................213
6.7.2 Performance .................................214
Box6:Casestudy:haveUSREITsbeenbeneficial
forUSinvestors?........................................216
6.8 TheUKREIT ......................................218
6.9 REITpricing:introduction...........................220
6.9.1 Earningsorassetvalues? ......................220
6.9.2 Marketcapitalisationandnetassetvalue ........220
6.9.3 PremiumordiscounttoNAV?..................221
6.10 Explainingthepremium/discounttoNAV ............221
6.10.1 Instantexposure..............................221
6.10.2 Liquidity/divisibility..........................222
6.10.3 Assetvaluesarehigherthanthe
reportedNAV................................223
6.10.4 Projectedassetvaluesareexpectedtoexceed
thereportedNAV.............................223
6.10.5 Otherissues..................................224
Box7:WhatnextforUSREITs?...........................225
6.11 Publicdebtandmortgage-backedsecurities(CMBS)....226
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CommercialRealEstateInvestment
7 Unlistedrealestatefunds ...............................231
7.1 Theexplosionofunlistedrealestatefunds ............231
7.1.1 Theappealoftheunlistedfund.................231
7.1.2 Theglobalunlistedpropertymarketuniverse ....233
7.2 Whatisarealestatefund?...........................235
7.3 Howmuchglobalrealestateisinunlistedfunds? ......236
7.4 Unlistedfundstructures.............................238
7.4.1 Limitedpartnerships..........................238
7.4.2 PropertyUnitTrusts(PUTs)....................239
7.4.3 PropertyAuthorisedInvestmentFunds(AIFs)....241
7.4.4 Managedfunds...............................242
7.4.5 Fundsoffunds ...............................242
7.5 Characteristicsofrealestatefunds....................243
7.5.1 Style ........................................243
7.5.2 Domicileandstructure ........................246
7.5.3 Sectorfocus..................................246
7.5.4 Openorclosed? ..............................247
7.5.5 Targetequityandpermittedgearing ............247
7.6 Liquidityandvaluationissues .......................248
7.6.1 Liquidity ....................................248
7.6.2 Valuation ....................................251
7.6.3 Realestateasanassetclass.....................252
7.6.4 Howmarketpricesareestimated ...............253
7.7 Thecaseforandagainstunlistedrealestatefunds......255
7.7.1 Thecaseforunlistedrealestatefunds ...........255
7.7.2 Thecaseagainstunlistedrealestatefunds .......257
7.8 Performancemeasurementandreturnattribution
forpropertyfunds..................................264
7.8.1 Theasymmetryofperformancefees.............264
7.8.2 Anattributionsystemforfunds ................266
7.8.3 Alphaandbetainpropertyfunds:acasestudy...269
7.9 Unlistedfundperformance:conclusions...............273
8 Propertyderivatives ....................................275
8.1 Thesearchfortheperfectvehicle.....................275
8.2 AshorthistoryoftheUKrealestatederivatives
market............................................276
8.2.1 Introduction..................................276
8.2.2 FOX,PICsandREIM..........................277
8.2.3 Thenewmarket ..............................278
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8.3 Internationaldevelopments..........................279
8.3.1 Introduction .................................279
8.3.2 TheUS ......................................279
8.3.3 Aglobalpropertyderivativesmarket?...........280
8.4 Totalreturnswaps..................................280
8.4.1Totalreturnswaps:anintroduction ..............281
8.4.2 Howcanswapsbeusedinportfolio
management? ................................282
8.4.3 Single(specific)propertyswaps ................284
8.4.4 Propertysectorswaps.........................284
8.4.5 Multi-assetlevelswaps........................284
8.4.6 Internationalindexswaps......................284
8.4.7 Themechanicsofpropertyswaps...............285
8.5 Pricingpropertyderivatives .........................287
8.5.1 Introduction .................................287
8.5.2 Asimplepricingexample......................287
8.5.3 Dealingwithrisk .............................291
8.5.4 Backingouttheimpliedmarketreturn ..........292
Box8:Derivativesasleadingindicatorsofthemarket .......294
8.5.5 Swappricingprinciplesandrealestate ..........295
8.5.6 Realestateswappricingmodel.................297
8.5.7 Reconcilingtheoryandpractice ................301
8.6 Structuredrealestateindexnotes.....................302
Box9:Usingderivativestooutperformtheindex ...........304
8.7 Propertyderivatives:prosandcons...................305
8.7.1Propertyderivatives:advantages ................305
8.7.2Propertyderivatives:disadvantagesandrisks .....306
8.8 Propertyderivatives:spin-offs .......................308
8.8.1 Hedgefunds.................................308
8.8.2 Derivativesfunds.............................309
8.8.3 Managingdevelopmentrisk ...................309
Box10:Usingderivativestomanagedevelopmentrisk ......310
8.8.4 Stripsandexoticswaps........................313
8.9 Tradedpropertyfuturesandoptions..................314
8.10 Conclusions .......................................315
Part4InternationalRealEstateInvestment
9 Internationalrealestateinvestment:issues................319
9.1 Introduction .......................................319
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