Europe’s property firms keenly exploited ultra-low borrowing costs in the 2010s. Take German residential landlord Vonovia SE. It financed its bid for rival Deutsche Wohnen by selling bonds at rates unimaginable today. Some 1.8 billion euros ($1.9 billion) was borrowed at a zero percent coupon. The coupon on the 30-year tranche was just 1.63%.
Then there’s Sweden’s property sector. It’s had to adjust as base rates have jumped to 3% from below zero in three years or so. Swedish firms have the highest loan-to-value ratios, a measure of debt relative to assets, of the Stoxx Europe 600 Real Estate index. Gothenburg-based Castellum AB last week moved to raise 10 billion kronor ($970 million) in a jumbo share sale to bolster its finances, days after domestic peer Fabege AB cut its dividend.
Contrast this with the UK, where the real-estate sector has been much more restrained. The reason is that London-listed firms went into the storm of 2008-2009 with relatively high leverage and had to sell assets at the bottom of the market or ask investors for cash. Hence shareholders demanded that the UK sector’s loan-to-value ratios didn’t rise too high even as the financial crisis abated.
The financial straight-jacket meant the London-listed firms were disadvantaged bidding against private equity buyers in auctions for assets during the post-crisis boom. And financial conservatism has not obviously benefitted shareholders — or at least, not yet.
Look through the recent falls in the share prices of the more levered European names. Since it listed in 2013, Vonovia has delivered total returns (reinvesting dividends in the stock) of around 120%. Only three then-members of the Stoxx real estate index did better. Segro Plc has fared best — it’s Europe’s main play on the warehouses at the hub of the e-commerce economy. The second-best performer is Castellum. The big UK names are almost all in the lower half of the table when ranked by total returns over the same near-decade period. So much for the prudence being rewarded.
This is not in itself a defense of leverage. Where continental firms have outperformed UK peers since the financial crisis, it’s usually because they were exposed to stronger regional and sectoral trends in rental growth. Contrast booming rents in Berlin with the UK sector’s heavy weighting toward shopping malls, hit by e-commerce, and London offices, laboring under the uncertainty over Brexit. Moreover, one of the best performing Swedish property companies, Hufvudstaden AB, has thrived while keeping debt in check.
Leverage has amplified underlying performance in both directions. Mall operator Unibail-Rodamco-Westfield is among the worst performers for shareholders over the last decade. UK peer Intu Properties collapsed under its debts when stores were shuttered in the pandemic.
The particular advantage of low leverage is the flexibility and the headroom it gives you to make opportunistic acquisitions in a downturn — like now. The question is whether UK management teams will now get shareholder backing to take on more debt or raise equity so they can exploit weak companies in fire sales. Often, the pressure is to do the reverse – to take more risk at the top the cycle, and be excessively prudent at the bottom.
We’re entering a period when the UK real-estate sector ought to start getting something back for its financial conservatism. But debt is now expensive, and shareholders are likely to be reluctant to inject cash when UK property stocks are trading at low valuations. Further defensive deleveraging in Europe looks more likely than offensive M&A in the UK.
More From Bloomberg Opinion:
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• It’s Clear QE Was a Colossal Policy Mistake: Allison Schrager
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Chris Hughes is a Bloomberg Opinion columnist covering deals. Previously, he worked for Reuters Breakingviews, the Financial Times and the Independent newspaper.
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