With massive growth in real estate markets around the region recently, real estate funds have emerged as a new asset class that is increasingly viewed as an effective investment tool.
“Only four or five years ago, regional real estate funds were still considered as a relatively rare product in the region,” said Ziad Maalouf, senior vice president at MENA Capital. Since then, real estate funds have dovetailed the region’s booming real estate market.
High oil prices providing massive liquidity, large scale government investments in tourism projects, international demand for affordable holiday homes, increasing domestic demand arising from growing economies, and increased security via government support for property ownership have all contributed to expansion of the real estate sector in the MENA region, as noted by Richard Faint, operations manager of the Jabbar Group’s MENA real estate fund.
A report by the group estimates land to be still comparatively cheap in various MENA countries, with commercial property considered a strong market in Dubai and across the UAE and to become a key sector in Morocco and Egypt over the next three to five years. A young population also fuels demand for affordable housing, with many developments sprouting over the region that are actually supported by governments. “The introduction of new laws in the UAE where purchasers’ payments are held in escrow and only released to the developer on successful achievement of building stages, has positively affected developer finance, as more developer are turning to funds to finance their projects,” the report stated.
“Real estate funds in the region have become increasingly more popular over the years with the liberalization of foreign ownership in Arab countries. Demand has been stimulated by the real estate boom and the emergence of real estate funds. However, we have observed a relative inertia of late, in terms of new fund creation, due to the recent uncertainly witnessed in Gulf property,” explained Marwan Salem, manager at FFA Private Bank.
Faint said real estate funds are becoming more popular, as more people become familiar with assets traditionally perceived as more exotic. He also believes that accurate valuations and a modernization of the economic sector are two factors that have certainly led to an increase of awareness towards the region from western funds.
Fund types
Real estate fund types may vary in size, allocation and focus. Salem noted that in the Levant the size of funds oscillates from $20 million to $100 million, while they tend to vary from $200 million to $1 billion in the Gulf.
Real estate funds take various forms. Property trading funds specialize in the investment and purchase of property by improving and selling lots at a premium. Some real estate investment vehicles target strong cash flow generation by targeting properties that have achieved a stable level of occupancy in major markets and/or core property types, while others are more opportunistic and focus on development or repositioning. They tend to generate an IRR from 7% to 20%, according to Salem. Real estate investment trusts (REIT) sell like stock on the major exchanges and invest in real estate directly, either through properties or mortgages. In an REIT, investors will typically be granted an annuity as the fund is invested in property which is rented out, remaining usually open ended.
“In development funds, however, investors’ money is channeled into various projects, which generally allows to recover capital with a premium after a time period of four to five years,” said Maalouf. Development funds tend to offer a much higher annual returns — in the MENA region often over 20% — but they also carry a much higher risk.
Real estate funds can have several types of foci. They might be country-oriented, whereby for example a “Bahrain fund” may invest solely in Bahrain, while others may have a more regional approach and thus invest in the Gulf or MENA generally.
“REITs have not been very successful in the MENA region where rental yields are generally low. They usually offer a net yield of 5 to 6% a year, while development funds can sometimes boast returns of more than 30%,” Maalouf emphasized.
According to Toufic Aouad, general manager at Audi Saradar Private Bank, successful Middle East real estate funds have been mostly focusing on high end residential real estate.
Approaches also vary from one country to another. “In the Gulf our strategy is generally based on a buy and hold approach as we generally expect land to appreciate, with leverage allowing us to magnify our returns,” Faint said.
So in what markets are funds investing? Saudi Arabia currently boasts several mega real estate projects and more real estate fund managers are increasingly focusing on this particular area, Salem said. In the Levant, according to specialists, current spiking prices are mainly due to the fact that real estate had not appreciated significantly over a very long time before booming suddenly. In Jordan and Syria, stability and a regular inflow of Iraqi money have buoyed the upward real estate trend.
Dubai prices have been going up by 80-100% a year and Saudi Arabia’s by 50%. In Syria, prices have increased in prime locations, while prices in Jordan have doubled and are now stabilizing. However, only a small fraction of real estate investments, not more than 10 to 15%, are channeled through real estate funds, reckons Maalouf.
The details
How do the various funds in place operate in such markets? MENA Capital is a financial institution regulated by the Central Bank of Lebanon, with its prime activity residing in private equity fund management. “We invest in real estate development and into companies that are ripe for regional expansion. Our real estate activity targets high-end residential developments in prime areas with MENA Capital acting as the developer and marketing and sales agent. Our projects are handled from A to Z through qualified in-house teams of financial specialists, architects, structural and civil engineers, and a full fledged marketing and sales team. In addition, we are currently closing a new real estate development vehicle dubbed Signature Properties with over $50 million in capital commitments,” Maalouf said.
Audi Saradar Private Bank relies on its subsidiary, CGI (Conseil et Gestion Immobilière) which handles the management and marketing of its Lebanese real estate activity and has partnered up with Inovalis, a French company. It has woven strategic synergies with local developers in the region, while its Lebanon real estate arm is underlined by various financial structures, allowing the bank to leverage some $80 million in equity. “We have created with Inovalis two funds in Europe, Elysée I and II. The first Elysée fund was launched in 2004 and closed in 2008 and has provided investors with an IRR of over 20%. The second real estate fund, Elysée II, which is invested up to 60% in Germany, has a $75 million equity commitment and a $330 million portfolio as well as an 8% a coupon rate,” Aouad declared.
Audi Saradar is also introducing the MENA Red fund focusing on areas considered undervalued — North Africa, Sudan and Jordan — as well as more mature markets where 60% of the fund will be invested, including KSA, Abu Dhabi and Turkey. “We expect to leverage up to $150 million in equity and are aiming for a 20% IRR,” Aouad added.
The Jabbar Group’s MENA real estate fund is a $37 million investment fund targeting early stage real estate opportunities in the Gulf and the MENA region. It has adopted an investment strategy of high capital growth with a target return of 25%.
FFA is also working on a new real estate fund. Salem listed some prominent real estate funds such as Abraaj Real Estate Fund L.P, which was closed in December 2004 with total commitments of $113.5 million, Markaz Real Estate Opportunities Fund with $ 200 million, the Global GCC Real Estate Fund-II, a close-ended fund that was launched in July 2008 and is worth $500 million, the Shuaa Saudi Hospitality Fund I, a sharia-compliant closed-end fund for Saudi real estate, and the Saraya Real Estate MENA Fund.
All managers underscored the importance of holding real estate funds for investors across the board. “They can be used as a powerful tool for diversification and as a medium to invest in the real estate asset class through managed investment solutions. As an asset class, real estate investment returns have historically displayed low or negative correlations with stock and bond returns, which means real estate is a relatively effective asset class for portfolio diversification,” Salem said.
Real estate is necessary for portfolio diversification because it is uncorrelated to the market in general, although this rule has not recently applied in light of the subprime crisis. “Real estate funds are extremely convenient for investors who do not have the ability to develop projects on their own as they give them access to prime real estate developments through professionally managed vehicles,” Maalouf added.
What should investors seek in a fund? Salem advises a look at the the fund manager’s track record, the expected returns, types of investments, geographical focus and exit strategy. “The fund also rests on the credibility of its managers and the level of commitment the institution shows to its funds,” added Aouad. Other characteristics investors ought to look into are the actual fund structure, its legal framework, the quality of the developer, the type of development and the fee imposed on investors. “Part of the risk inherent to such an investment is that you are pouring capital in a blind pool of money. Ideally, real estate fund developers should have identified projects, prior to raising capital from investors,” Maalouf said.
