East Europe Real Estate

The Irish over the past several years have enjoyed a special relationship with the Eastern European property market. Lured by claims of an easy buck, we poured millions into unseen resorts and other investments. Exhibitions hosting many companies connected those with money to those with plans. But the love affair did not end well. Investors overextended themselves in search of greater gain. Now the losses must be nursed just as they must be in our domestic market. That investment was mainly residential, but is there hope for commercial?

As a result of the global recession and credit contraction, property prices and transaction volumes have fallen precipitously throughout the world. The prospects for the imminent recovery remain allusive, albeit opportunities for finding good investment deals in Central and Eastern Europe are emerging.

According to research from CB Richard Ellis, about €567 million was invested in institutional property markets in Central and Eastern Europe in the first half of 2009. This represents a staggering 86% decline from the second half of 2008 and a 91% plunge from the first half of the previous year. Close to 80% of all investments went into Russia, Poland, and Czech Republic, with Russia accounting for nearly half of all investments. The actual number of deals has fallen sharply to about 40 in the first half as a whole, which is only a half compared to the previous semi-annual period and about a third compared to the same period in the year earlier. Moreover, the average size of the deals has fallen sharply from the previous year, by 65% to €15 million in the first half of 2009. This compares to a close to 40% decline in average deal size in Western Europe, where the deal size in the first half this year averaged about €18.4 million.

The majority of investments in commercial property in Central and Eastern Europe so far this year is in office space, which absorbed about 40% of the total investment volume. Another 20% went into retail space. Traditionally, foreign investors accounted for well over 80% of all investments in commercial real estate in Central and Eastern Europe in previous years. However, what is peculiar this year, and may be a reflection of the severe credit squeeze and the heightened risk aversion, is that foreign investors have accounted for slightly over a half of all investments. This trend is likely to reverse, but is still indicative of the high risk aversion among foreign investors, who are likely concerned about the prospects for a recovery in the property markets in Central and Eastern Europe.

On the other hand, property prices have dropped by double digits in most national markets in Central and Eastern Europe. Prime yields-or returns on investment-now average around 10% and have recovered in recent months compared to their rates in 2008. Even though the market is expected to continue to remain under pressure for some time, yields have been on a stabilizing, upward trend. The currently highest prime yield for office space has Kiev (15%) and the lowest has Warsaw (6.75%). Kiev also has the highest prime yield for retail properties (16%) and industrial space (17%). Prague has the lowest prime yield for retail space (7%), and, along with Warsaw and Bratislava, has the lowest yield on industrial real estate (8.75%). However, it should be noted that yields on sub-prime properties may be substantially higher than the yield on the noted prime properties.

The recent downturn in the commercial real estate market has been relatively mild in Warsaw and Prague, which represent the most stable commercial property markets in the region. This is partly a reflection of the overall soundness of the economic fundamentals underlying the economies of most Central and Eastern European countries. However, the collapse of the Hungarian economy has taken an especially heavy toll on the nation's commercial property market, in particular on its office space, which has seen prices fall by over a third compared to the year earlier.

Even though property prices in most national markets are still declining, opportunities for investment will emerge soon, as the global economic recovery gives a thrust to the local economies of the Central and Eastern Europe. This will likely revive the attention of foreign investors, especially from Western Europe, who may be particularly interested, albeit cautious, in making investments in the markets that offer higher yields than those offered by their respective national markets. Therefore, the recent correction in prices of commercial properties in the region represents an opportunity for international investors to acquire real estate that has a potential for rapid appreciation while providing stable and comparably high yield.

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