Geography, currency and debt drive European fund returns (EUR)

Institutional European pooled property funds delivered a euro-denominated annual total return of -1.6% over 2009, according to the IPD European Pooled Property Fund Indices (e-PPFI). The bi-annual e-PPFI – based on a fund universe of 245 predominantly core and value-added funds representing a total NAV of €74.7 billion – returned -4.2% over the first six months of last year. This was subsequently reversed by a positive six-month return in the second half, at 2.7%, although the recovery was insufficient to lift returns into positive territory over the full calendar year.

But the annual headline -1.6% figure masks a number of factors: improvements in some key underlying direct European property markets; currency swings throughout the year; the impact of leverage as well as the consequences of geographic and sector investment strategies. All of which contributed to a dramatic 95 percentage point euro-denominated total return spread across the 1st to 99th percentiles – at 43.6% and -52.0%, respectively.

The institutional-only fund universe consists of 17 pan-European funds (€3.2bn), 68 UK-focused funds (€27.3bn), 24 French funds (€7.2bn), 15 German funds (€6.2bn), 41 Italian funds (€9.1bn) and 80 other single country and regional-specific funds (€21.7bn).

Top Quartile Funds
The relative outperformance of the 63 top quartile performing funds – comprising 32 balanced and 31 specialist funds – against the -1.6% e-PPFI benchmark was predominantly driven by geography of investments. Within the pool, 43 out of 54 single country-focused funds, which invest more than 85% in one country, invested in the UK.

"UK funds benefited from a dramatic reversal of fortunes over the second half of last year," explains Cameron McVean, Head of Fund Services at IPD. "With the return of yield compression, an improving picture in rental and occupancy markets as well as the emergence of the domestic economy out of recession. No doubt, some outperformance came from managers' making good tactical calls ahead of the market recovery mid-way through last year, which saw a cumulative 9.8%1 capital growth over the second half."

The direct UK property market delivered an annual total return of 3.5% compared to 2008's -22.1%. For euro investors, the impact of swings in the currency over 2009 was significant for investors in UK-domiciled and invested funds. It was a year of two halves: the first six months saw sterling strengthen against the euro during a period in which capital values were still in decline. Investors, therefore, suffered from negative property performance but benefited from a positive currency impact when returns were converted into euros.

The second half of last year saw the reversal of this position. Sterling weakened against the euro during a period when the UK property market began to recover; positive property performance was, to some extent, diluted where conversion back into euros. To illustrate this, average returns for all European institutional pooled property funds over the six months to June were -15.6% in sterling, which improved to -4.2% in euros. In H2, when the currency effects reversed, a six-month 7.2% sterling total return was eroded by sterling's weakness to 2.7% in euros.

The top quartile fund performers also included five French and Italian-focused funds, one German-only fund, five pan-European funds and two Nordic funds. The outperformance of French-focused funds is intriguing. All five funds had either zero or minimal gearing and each predominantly or entirely invested in French offices. The three principal Parisian office districts saw double-digit annual capital depreciation in 2009, although the write-downs significantly eased in the second half of last year.

McVean explained: "Across the entire fund database, 14 out of 24 France-only funds outperformed the benchmark, suggesting there were pockets of value to be found within the French market despite its overall -3.5%2 annual return last year."

Bottom Quartile Funds
The range of euro-denominated total returns am

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