Thirty years ago, Europeans were buying land in Florida as a safe haven against perceived political volatility in their own countries. Twenty years ago, they began buying neighborhood shopping centers, public warehouses, small office and industrial properties and farms forested with marketable timberland. Fifteen years ago, in an "invasion" similar to that from Japan, Europeans began buying prominent skyscrapers, industrial parks and power centers. And 10 years ago, they were buying just about everything.

European investors have enjoyed a long-term love affair with United States real estate. Whether the funds came from high net worth individuals wanting to diversify their investment portfolios or institutions seeking to take advantage of the strength of the dollar and the U.S. economy, money from Europe flowed freely over our shores, and bought major presences in many primary U.S. markets. Though other countries have made significant investments in U.S. real estate, the lion's share of foreign investment funds has come from Europe, with some lesser amounts coming from Japan, Canada and South America.

Aby Rosen, the German president of RFR Holding LLC, is quoted in the May 9th edition of the Wall Street Journal, saying, "There are no alternative investment areas, other than one or two countries in the East (Europe), where we can get the yields you can get here (in the United States)." The article also refers to a new study by Cushman & Wakefield, which found that between 1995 and 2000, German buyers purchased $9.2 billion, or 38 million square feet, of U.S. real estate. Three-fourths of the transactions were completed by only a handful of purchasing entities.

The Southeast has historically been one of the favored sectors of the country that courted and won the hand of foreign investment money. An entire industry segment sprang up around this lucrative symbiotic relationship created over the years as the demand for a higher return than European investments could offer paired with a strong U.S. real estate market and a high quality real estate product. Due to its strategic location and strong business presence, Atlanta became the acknowledged center of the Southeast real estate universe, attracting money from Europe with the largest sums by far coming from Germany, followed by The Netherlands.

In the last months of 1999 and the first months of 2000, a number of unique factors converged, and when the dust settled, the straight-line flow of funds into the U.S. had turned into a trickle. "Two or three years ago, Germans were just pouring money into the U.S.," notes Todd Behrand, international tax partner with Anderson LLP. "Now that has dramatically slowed down." Trey Freeman, president and CEO of Kollman (USA), Inc., agrees. "Two years ago, the Germans were very active in the market. That has decidedly changed," he says.

Most industry executives agree that the in-flow of capital originally tapered off in the summer of 2000. They also agree that the primary factor catalyzing the change was the downward movement and the destabilization of the values of the euro and German mark. "As the value of the euro moved downward and the exchange rate of the mark against the dollar hovered between 2.1 and 2.3, investment in the U.S. became much more expensive. Also, at the same time, the dollar seemed to be over-valued. Foreign investors have reacted by sitting tight," says Behrand. Tom McWhirter, president of TMW Real Estate Group, says, "With the drop in the exchange rate, investors lost 30 percent of their purchasing power in a fairly short amount of time." Because these investors did not want to buy at the peak of the low, they adopted a wait-and-see attitude. "An exchange rate of 2.0 between the German mark and the dollar seems to be a psychological barrier that is hard for foreign investors to overcome," says David Ballew, president and CEO of BVT Equity Holdings, Inc.

According to Steve Zoukis, a partner in Jamestown, a second major factor in the slowing of investment dollars into the Southeast and the U.S. was the recent emergence of greater knowledge and understanding of shareholder value in Germany. "About 18 months ago, the German stock market became competitive and many Germans jumped in when it was strong," he says. However, since that time, there has been a dramatic drop in that market and many investors "not only made poor returns, but they also lost their initial investments. Because of this, they are now willing to look at real estate again."

Europeans didn't just jump into their own stock markets. They also jumped heavily into the U.S. stock market, which was experiencing very dynamic returns. "The lure of the U.S. market that was providing huge returns on investment in IT stocks made real estate investments look pretty dull," says Richard Lee, a partner with Branch Properties, LLC. "But with the recent downturns in the stocks of IT companies, real estate is beginning to look pretty good again."

A third factor that has slowed the inflow of foreign funds is the perception that the U.S. economy has become less stable. "The 10-year expansion of the U.S. economy was changing and tapering off. This did, in fact, happen but it was not anticipated that European economies would follow the U.S. closely, which they did," says McWhirter. Now, as the European economies have experienced fluctuations similar to the U.S. economy, the interest in investing in the U.S. is slowly returning.

Others site additional factors that have contributed to the slow down in funds coming into the U.S. market. Among them are recent German tax reforms, attempts to bail out former Communist East Germany and the uncertainty surrounding the outcome of the last U.S. Presidential election. As these topics have moved from headlines to historic events, their individual effects have lessened. But one area seems to have had a more long-term effect on the return of the investment dollar to the U.S. "Because of the success of the efforts to market U.S. real estate to the European investor in the past decade, the investment pipeline was relatively full," says Reto Schneider, president of BAITA International, LLC. "Many companies were so successful in raising funds for their products that they grew from niche companies to major market players. For example, there were several companies that used to place about $35 million in investment dollars per year. In the last years of the 1990s, they increased their amount of annual placement funds to well into the $100 million range. There are only so many investment dollars to go around, and therefore those dollars were being split between a fewer number of larger investments." Additionally, the bull market for foreign investment attracted a lot of new players. "Many of those players are now gone and the number of viable U.S. companies offering product to European investors should even out."

How About the Southeast?

How has the Southeast faired compared to other areas of the country? It depends on the specific product class and the type of investor relationship being serviced. "We are no longer focused on the Southeast because of the particular type of property we are buying," says Zoukis. "Our strategy is to buy large properties because the number of properties we can place in any particular fund is limited." Because of this, Jamestown tends to focus on large single investments of $100 million and up. "There are only a few markets that can hold these size investments -- New York and Boston, primarily, and Chicago and San Francisco, secondarily."

McWhirter with TMW agrees. "At one time, the Southeast was a favored market, but that has diminished. Recently, markets that do not offer some kind of supply discipline have not been kind to investors. Most Southeast cities do not have the needed constraints in place."

The Association of Foreign Investors in Real Estate (AFIRE) conducts an annual survey of markets preferred by foreign investors. Jim Fetgatter, chief executive, notes a marked decrease in the popularity of the Southeast. "Atlanta is the only Southeast city that shows up year after year on the list. Up until two or three years ago, Atlanta was always number 1 or 2, and pretty much shared those top positions with Washington, D.C. In the past three years, Atlanta has dropped out of the top five. This is in response to the perception that the Atlanta market is approaching being overbuilt and that barriers to entry are becoming more difficult than they were several years ago."

But there are several indications that Atlanta, and some other markets in the Southeast, are still centered on the radar screen. Richard Lee notes, "When the exchange rate changed, it was quite a jolt. But when it became apparent that it was not just a Šblip,' investors began to adjust their expectations somewhat." Because of this, the impact of the change in values of the euro, mark and dollar has softened over time. And, according to Lee, Branch's group of investors is still very interested in the Southeast. "In looking at overall economic indicators, even though the percentage of growth in the Atlanta market has slowed compared to the past several years, it still tops the charts in numeric growth for comparable, major market cities."

According to John Sexton, president of Noro Management, Inc., "It seems that Atlanta is a two-sided mirror. There is talk about the greater Atlanta area being somewhat suspect, but everything that has come on the market has been immediately purchased." "Cap rates are beginning to come up a little now and cash-on-cash returns and IRR's are also increasing to reflect this upward movement," Sexton adds. Increasing yields will invite money back and encourage diversification with investment in real estate as part of the overall portfolio.

"Branch Properties has not noticed a change in business volume and we attribute this to our particular investment base, which is quite different from others," says Lee. "Our investors are primarily extremely high net worth individuals who we have been doing business with for many years. They look at U.S. real estate as one of their major asset classes. In many instances, their money is already in U.S. dollars, and by keeping it here, they avoid the exchange rate risk. Our investors favor the Southeast because they are familiar with it, have invested in it before, and our expertise is here." Generally, European investors have a more long-term view than Americans and American institutions. "Institutions think in terms of quarters. Europeans think in terms of generations," says Lee. "A slight downturn does not cause them to panic."

Ballew credits BVT's continued stream of business to the particular property type it purchases. "We acquire Class A, grocery-anchored neighborhood and community shopping centers with long term, high credit leases. In 2000, we closed more transactions, in both numbers and dollars, than in previous years." According to Ballew, these types of centers are considered to be long-term, conservative, secure investments, and they are not as sensitive to fluctuating market conditions as other property types may be.

Emerging Trends

As the scrutiny of properties being purchased for investment tightens, there is a general shift to buying properties in the more internationally known cities of New York, Boston and Chicago. The fate of San Francisco is not yet known as the IT shakeout continues. "Internationally, Atlanta is known as a second tier market and other Southeast markets are a tier below that," says Behrend. "Often, when you look at the numbers, Atlanta deals are comparable to those in other cities, but the emotional factors related to buying properties in cities you may visit on vacation still have a strong pull."

The reasons for the strength of the attractiveness of these markets are not just emotional. According to Zoukis, "Growth patterns are more predictable in these cities because they are anchored by lots of dense development, historically established business centers that are dependent on mass transit and a very limited number of available sites." The Sunbelt and the Southeast do not have this growth pattern stability. "For example, 15 years ago the Perimeter market in Atlanta did not even exist," says Zoukis. "Overall, the economy of Atlanta may be stable, but the specific long-term growth patterns are not because they are not defined by geographical barriers or mass transit." Other cities in the Southeast have similar unpredictable growth patterns, which makes it hard to make singular, large investments.

There is also clearly a trend away from "direct" investment in individual properties to "indirect" investment in real estate through various REIT vehicles, both private and public. "Atlanta has a great record in attracting direct investment capital into the Southeast. But most indirect investment happens through fund managers located in larger northeastern cities," Behrend explains. Sexton adds, "Dutch investors have a desire for the assurance of an exit plan. They want not just a return on capital, but also a return of capital. Because of this, they tended to focus on REIT vehicles during 2000. This interest was based on the strategy of purchasing shareholder interests that offer the flexibility of selling at any time, rather than on private ownership. They were investing in the management and leasing expertise of real estate companies, rather than in real estate assets."

In addition, Europeans are also investing in their homelands. "Ireland, Spain and Portugal are the strongest growing members of the European Union (EU) and there are a number of development opportunities in those countries," says Behrend. "There has been a trend toward buying investments in these (European) countries because by doing so, you avoid the currency risk."

Another emerging trend is a flow of money going out of the U.S. into Europe. "I am aware of several large institutional investors and real estate advisors that are putting together opportunity funds to invest overseas", observes Freeman.

At the AFIRE international conference held the first week of May in Europe, Fetgatter became aware of another trend. "Many European banks are talking about, and some have applied for admittance to, the U.S. with the goal of lending to Americans," he says. There is a perception that U.S. lenders are somewhat out of the market because they have tightened their credit requirements in light of concerns about the U.S. economy. So European banks may be trying to step into that gap."

A Look Ahead

As the U.S. economy struggles and our stock market searches for a bottom, there is still a spread between the ask and buy of large trophy investment properties. Due to continued decreases in interest rates by the Federal Reserve, property owners have financing alternatives to an outright sale. Several industry experts generally agree that we are experiencing a set of market conditions we have not seen before and, because of this, the depth and duration of the hesitancy of foreign investors is hard, if not impossible, to predict. They also agree there are signs that the wait will not be long.

Eventually, as rates stabilize and Europeans come to accept the revised exchange rates, foreign investment should return to most cities in the U.S. -- Maybe not at the level seen in the late 1990s, but as a significant component in the investment landscape.

As far as the Southeast is concerned, perhaps we will not see the heyday of foreign investments that flowed freely into its cities throughout the 1990s. But most agree we will once again see a moderate and consistent level of investment returning to a U.S. market that is more evenly balanced between buyers and sellers.

"In this particular market, the Southeast will only get a proportionate share of the investment dollars, where before it was getting a disproportionate lion's share," says Behrend. "We will have foreign investment interest in the U.S. as long as we provide satisfactory returns," says McWhirter.

Schneider summarizes a thread of optimism that is expressed by many industry experts. "Real estate has become a global commodity. And in this market, that is positive."

Karen Stone, CCIM, president of Stone Consulting Group, is a commercial real estate consultant and freelance writer based in Atlanta. She provides transaction management, due diligence and marketing services to the commercial real estate industry.

Jerry Monash, CCIM, President of Lancet Realty Advisors, Inc., is a commercial real estate consultant based in Atlanta. He is also president of the Real Estate Investment Advisory Council (REIAC), a national, "principal only" trade association.


©2001 France Publications, Inc. Duplication or reproduction of this article not permitted without authorization from France Publications, Inc. For information on reprints of this article contact Barbara Sherer at (630) 554-6054.