Global Property Investment Strategies, Structures, Decisions

The measurement, benchmarking, forecasting and quantitative management techniques applied to property investments are now compatible with those used in other asset classes, and advances in property research have at last put the ongoing debate about the role of real estate onto a footing of solid evidence.

The truly global scope and authorship of this book is unique, and both authors here are singularly well qualified to summarise the impact and likely future of global innovations in property research and fund management. Between them, they have experienced three real estate crashes, and have observed at first hand the creation of the real estate debt and equity instruments that led to the global crisis of 2008-9.

Global Property Investment: strategies, structure, decisions offers a unique perspective of the international real estate investment industry with:

• a close focus on solutions to real life investment problems
• no excessive theoretical padding
• a target of both students and professionals
• highly qualified dual-nationality authorship

With many cases, problems and solutions presented throughout the book, and a companion website used for deeper analysis and slides presentations (see below), this is a key text for higher-level real estate students on BSc, MSc, MPhil and MBA courses worldwide as well as for practising property professionals worldwide in fund management, investment and asset management, banking and real estate advisory firms.

David Hartzell is Steven D. Bell and Leonard W. Wood Distinguished Professor in Real Estate and Professor of Finance at the Kenan-Flagler Business School, University of North Carolina, USA. He is a former vice president at Salomon Brothers Inc. in New York and is now a board member with Highwoods Properties, a REIT.

Acknowledgements xv

PART ONE REAL ESTATE AS AN INVESTMENT: AN INTRODUCTION 1

Chapter 1 Real estate – the global asset 3

1.1 The global property investment universe 3

1.2 Market players 6

1.3 Property – its character as an asset class 11

1.4 Conclusions 28

Chapter 2 Global property markets and real estate cycles 32

2.1 Introduction 32

2.2 The United States 34

2.3 The UK property market – a performance history 67

2.4 Continental Europe 80

2.5 Asia 83

2.6 Conclusions 91

Chapter 3 Market fundamentals and rent 94

3.1 Introduction: the global property cycle 94

3.2 The economics of rent 95

3.3 Forecasting rents 109

3.4 Conclusions 116

Chapter 4 Asset pricing, portfolio theory and real estate 117

4.1 Risk, return and portfolio theory 117

4.2 A property appraisal model 124

4.3 The model components 132

4.4 The required return for property assets 140

4.5 Forecasting real estate returns 142

4.6 Conclusions: a simple way to think about real estate returns 151

PART TWO MAKING INVESTMENT DECISIONS AT THE PROPERTY LEVEL 155

Chapter 5 Basic valuation and investment analysis 157

5.1 Introduction 157

5.2 Estimating future cash flows 161

5.3 The discount rate 166

5.4 Conclusions 170

Chapter 6 Leasing 171

6.1 Introduction 171

6.2 Legal characteristics of leases 173

6.3 The leasing process 174

6.4 Important economic elements of a lease 174

6.5 Lease economics and effective rent 192

6.6 Conclusions 199

Chapter 7 Valuing commercial real estate: the unleveraged case 203

7.1 Introduction: the investment opportunity 203

7.2 Developing a pro-forma income statement 206

7.3 Valuation using the cap rate 210

7.4 Valuation using cash flows 212

7.5 Applying discounted cash flow to analyze investment feasibility 219

7.6 Conclusions 221

Chapter 8 Mortgages: an introduction 222

8.1 Introduction 222

8.2 What is a mortgage? 223

8.3 The risks and returns of mortgage investment 225

8.4 The fi nancial components of a mortgage 226

8.5 The mortgage menu 229

8.6 An introduction to mortgage mathematics 231

8.7 Conclusions 247

Chapter 9 Commercial mortgage underwriting and leveraged feasibility analysis 248

9.1 Introduction 248

9.2 The mortgage underwriting process 248

9.3 Investment feasibility with leverage: before-tax analysis 256

9.4 Investment feasibility with leverage: after-tax analysis 263

9.5 Global variations in real estate debt 270

9.6 Conclusions 272

Chapter 10 Valuing the private real estate entity 274

10.1 Introduction: the four quadrants and private equity 274

10.2 Sponsor economics 276

10.3 The life cycle of a private equity fund 277

10.4 Fund economics 279

10.5 Waterfall structures 282

10.6 Private equity structures in the credit crisis 289

10.7 Conclusions 291

PART THREE REAL ESTATE INVESTMENT STRUCTURES 293

Chapter 11 Unlisted real estate funds 295

11.1 Introduction to unlisted real estate funds 295

11.2 The growth of the unlisted real estate fund market 299

11.3 Unlisted fund structures 303

11.4 Characteristics of unlisted real estate funds 307

11.5 Liquidity and valuation issues 310

11.6 The case for and against unlisted real estate funds 312

11.7 Conclusions 317

Chapter 12 Public equity real estate 319

12.1 Introduction 319

12.2 REITs and REOCs 320

12.3 Listed funds and mutual funds 321

12.4 Exchange-traded funds (ETFs) 321

12.5 The US REIT experience 322

12.6 The global market 331

12.7 REIT pricing 335

12.8 Conclusions 339

Chapter 13 Real estate debt markets 340

13.1 Introduction 340

13.2 A brief history lesson 342

13.3 Wall Street Act I: the early residential mortgage-backed securities market 344

13.4 Wall Street Act II: senior-subordinated securities, the advent of structured finance 350

13.5 Wall Street Act III: the evolution of structured finance 356

13.6 Collateralized debt obligations (CDOs) 361

13.7 Summary 363

13.8 Mezzanine debt 364

13.9 Cash-out refinancing 367

13.10 All good things must come to an end 369

13.11 Conclusions 377

Chapter 14 Real estate derivatives 378

14.1 Introduction 378

14.2 A short history of the real estate derivatives market 379

14.3 Total return swaps 381

14.4 Structured real estate index notes 386

14.5 Traded property futures and options 387

14.6 Pricing property derivatives 389

14.7 Property derivatives: pros and cons 399

14.8 Property derivatives: spin-offs 401

14.9 Conclusions 405

PART FOUR CREATING A GLOBAL REAL ESTATE STRATEGY 407

Chapter 15 International real estate investment: issues 409

15.1 Introduction: the growth of cross-border real estate capital 409

15.2 The global real estate market 411

15.3 The case for international real estate investment 415

15.4 The problems: an introduction 419

15.5 Technical issues 420

15.6 Formal barriers 423

15.7 Informal barriers 427

15.8 Conclusions 433

Chapter 16 Building the global portfolio 440

16.1 The top-down portfolio construction process 440

16.2 Strengths, weaknesses, constraints: portfolio analysis 447

16.3 A pricing approach for international property 451

16.4 Managing currency exposure and currency risk 463

16.5 Portfolio construction 471

16.6 Conclusions 474

Chapter 17 Performance measurement and attribution 475

17.1 Performance measurement: an introduction 475

17.2 Return measures 476

17.3 Attribution analysis: sources of return 487

17.4 Attribution analysis: the property level 489

17.5 Attribution analysis: the portfolio level 492

17.6 Attribution and portfolio management: alpha and beta 502

17.7 Performance measurement and return attribution for property funds 505

17.8 Conclusions 518

Chapter 18 Conclusions 520

18.1 Why property? 520

18.2 Liquid structures 521

18.3 Unlisted funds 521

18.4 International investment 523

18.5 Best-practice real estate investment 523

18.6 Pricing 524

18.7 The future 525

References 526

Glossary 533

Index 548

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