U.S. players are globalizing their realty approach

U.S. institutional investors are investing in international real estate at a furious pace.

In search of high returns and low correlation to other asset classes, executives at some pension plans, endowments and foundations are putting newly increased real estate allocations into non-U.S. properties. Others are shifting domestic real estate allocations to international.

Global investment in real estate grew 12% last year to $457 billion. Of this total, the volume of investments made outside investors' home countries grew 21%, to $99 billion, according to a recent study by Jones Lang LaSalle, Chicago. Some 80% of this cross-border investment was outside the United States, with U.S. and Canadian investors investing mostly in Europe, the survey noted.

In the past, U.S. institutions were "back-door" investors overseas. They invested in opportunity funds that were allowed to invest overseas, said Charles Lowrey, chief executive officer of Prudential Real Estate Investors, a subsidiary of Prudential Financial Inc., Newark, N.J.

Now, institutional investors are barging through the front door, a sensible move, Mr. Lowrey said. While at least $50 billion has been committed this year to worldwide real estate by U.S. institutions, only 40% of the investible real estate is located in the United States, he said. This imbalance is drawing institutional investors abroad.

"We are well on our way to the globalization of real estate investing in the U.S.," Mr. Lowrey said.

Some of the investors leading the way are:

c The $197.5 billion California Public Employees' Retirement System, Sacramento, where officials plan to raise its international investments to as much as half of its $22 billion real estate portfolio in five years, said Brad Pacheco, CalPERS spokesman. Current real estate investment policy allocates up to 15% of the real estate portfolio to international.

c The $31.1 billion Los Angeles County Employees Retirement Association, Pasadena, Calif., last month created an international real estate allocation of no more than 10% of its real estate portfolio to add geographic and economic diversity, said Trina L. Sanders, senior investment analyst for real estate. The fund invests 10% of total plan assets in real estate, which means that up to $311 million would be invested in international real estate.

c Officials at the $64.5 billion Ohio Public Employees Retirement System, Columbus, plan to invest an estimated $4 billion in real estate through the end of 2008 to bring the system up to its 9% target allocation. The plan is to increase its exposure to international real estate investments "as opportunities arise" as a way of boosting returns, according to the system's 2005 annual plan. The system currently has $127 million invested in international real estate.

c The $84 billion New York State Teachers' Retirement System, Albany, invests less than $421 million of its $7.9 billion real estate portfolio in international real estate, said John Cardillo, spokesman. Fund officials expect to gradually increase the portfolio's international exposure as opportunities arise, he said. The system's target real estate allocation is 8%, with a range of 5% to 11%; there is no set international suballocation.

c Members of the $44 billion Virginia Retirement System's investment committee are considering investing a portion of the Richmond-based fund's $1.8 billion real estate portfolio in Asia and Europe.

"I don't think these are isolated examples," Mr. Lowrey said when told of P&I's list. Returns of U.S. real estate have gotten lower, while real estate returns overseas have risen.

What's more, institutional investors have become more comfortable with international real estate. They are already exposed to it through their opportunity fund investments, Mr. Lowrey said.

Daniel O'Connor, managing director of global forecasting and real estate research for Global Real Analytics LLC, a San Francisco research firm, agrees returns are making global real estate investment more attractive to institutional investors.

"Yields and cap rates have fallen dramatically in the past 24 to 36 months," Mr. O'Connor said. "That's one of the factors pushing investment outward."

Investors are already thinking in global terms with other asset classes, so it is natural for them to consider global real estate, he said.

At the same time, pension trustees are lifting the restrictions they had requiring separate approval for cross-border real estate investments, said Bob Lee, partner in the Chicago office of the law firm of Jones Day.

"Quite a lot of public funds were constrained against investing abroad," Mr. Lee said.

For example, the $3.5 billion San Diego City Retirement System cannot invest in international real estate, said Doug McCalla, chief investment officer. "We're not big enough to need to do that," he said. "We are not willing to take on the headache of maneuvering around country laws."

Where investors are looking varies.

Just last month, CalPERS pension officials approved a $650 million investment — 25% of its portfolio — in China and Eastern Europe, countries that do not appear on CalPERS' list of approved countries for equity investments.

In general, investors looking for double-digit returns are considering privatized corporate real estate or non-performing loans in Asia and Germany, or development opportunities in South America, China or Eastern Europe, said Dale Anne Reiss, global director of the real estate, hospitality and construction practice in the New York office of Ernst & Young LLC. A law passed this year in India has cleared the way for direct real estate investments there, she added. In general, investors are finding more core and value-added-type returns in Europe and more opportunity-fund-type returns and risks in emerging areas.

"As more money comes into the (real estate) industry, there is a greater need to get it placed," Ms. Reiss said. "Investors are more comfortable with real estate on a global basis."

Real estate investment managers have been expanding their capabilities and raising funds to meet the institutional investors growing demand.

For example, AMB Capital Partners LLC., San Francisco, and LaSalle Investment Management, Chicago, both closed Japan industrial real estate funds this year. Last month, CB Richard Ellis Group Inc., Los Angeles, acquired the remaining 90% of its Irish real estate investment affiliate, CB Richard Ellis Gunne, and Chicago-based real estate investment manager Heitman LLC, opened a Tokyo office earlier this year.