Research article

The investment case for European cities

Despite yield compression in recent years, there are still opportunities to acquire growing income streams from attractively priced European cities

© Alamy – The square of Stortorget, Gamla Stan, the old town of Stockholm, Sweden

Some European cities may have been late to the party but, like global gateway cities, many have now experienced a weight of investment money pressing on all the real estate sectors. Yield compression has become a feature of most markets.

As elsewhere, investors have turned their attention to alternative assets and this has changed the emphasis from real estate ‘quality’ (low-yielding but high capital growth history/prospects) to ‘value’ (high-yielding but possibly lower grade). Already investment activity has started to shorten yields disproportionately in some secondary and tertiary markets.

At a global scale, cross-border investment in most European countries is in itself still fairly ‘alternative’. The bulk of real estate investment flows into Europe (41%) are into the UK, and most of them (23%) end up in just one city: London. Paris is London’s nearest competitor for cross-border real estate buying activity but only takes 6% of the market.

Figure 1

FIGURE 1Investment flows into Europe

Source: RCA

Real estate investment and finance into European cities is largely deployed from within Europe. International investors are more fixated with the UK as a whole and even secondary UK cities attracted more capital than Warsaw, Brussels, Stockholm and Moscow in 2015.

But European cities should be of interest to investors as some of them seem to have lagged behind global trends and therefore still offer opportunities. Others are seeing unexpected and strong economic growth and occupier demand, making it possible to acquire growing income streams at, globally, relatively high yields. Investment activity has historically been concentrated in key global cities, often English-speaking, with transparent markets and safe title. Less well-known and sometimes more opaque markets in Europe started to see yield compression relatively late compared to the experience of the core gateway cities.

Notable among these markets are cities in Europe which have been overlooked, despite being safe jurisdictions with good title and stable economies. Some of this may have been because there is less information available on them than the fully invested global gateway cities. Also, some investors may not have wanted Euro-denominated assets and others may have feared the economic prospects of European countries after the global financial crisis (GFC).

There are, however, an increasing number of compelling reasons to invest in European city real estate as European countries have shown economic growth since the GFC and, more specifically, some European cities have shown even greater growth than the countries in which they sit. For investors willing to accept, or hedge, Euro currency risk, European city markets can look good value compared to other global cities, especially in relation to the bond yields available in the same jurisdictions.

The chart below shows net effective yields available for Grade A offices in a selection of global cities. Yields are also shown net of the current ten-year bond rate in those countries. It illustrates how many European cities are currently higher yielding, even when risk-adjusted, than other cities and therefore may present good value on the world stage, particularly to income investors.

Clearly, many investors are not expecting low, or even negative, bond rates to persist but still, some cities are pricing real estate at a more substantial discount to bonds than others. Investors in London, for example, are looking for an income return of 175 basis points over gilts while the same investors in Brussels want 512 bps more income than local government bond rates. We are not sure that these premia accurately reflect the risk return profile of European city property when the average NOBEY for all major world cities that we monitor is 2.58%.

Figure 2

FIGURE 2Net effective yields in Europe v rest of the world Grade A Offices

Source: RCA

On this basis, it looks reasonable to say that some European cities, notably Brussels, Dublin, Berlin and Frankfurt may have further scope for yield compression and that capital growth prospects therefore remain strong. Meanwhile, London, Warsaw and Madrid, in common with other world cities, look more fully valued due to recent capital growth and yield compression.


Jeroen Jansen – Netherlands Research

© Getty Images – Rotterdam, Netherlands

Following the economic upswing conditions for investors in Dutch cities have changed dramatically since 2014. Cross-border investments started flowing into the Dutch property markets and the investment volumes more than tripled, yields dropped rapidly and niche investment categories started blossoming.


Occupier demand for real estate is large in all sectors, but especially so at the prime locations. Prime offices, prime retail, prime logistics and prime residential are much sought-after by (international) investors. Here vacancy is low, rents are increasing and prospects are strong. However, as supply of prime properties is drying up, investors have extended their reach to core plus markets.

Office investments are very much aimed towards Amsterdam, by far the number one destination in the Netherlands. The city is rapidly growing in inhabitants and in jobs and is attracting talent from all over the Netherlands. Office occupiers wanting to attract this talent increasingly aim for high quality mixed-use locations, not only in Amsterdam, but in all major cities.

Investor interest for core (plus) opportunities in logistics, retail and residential remains invariably high and core plus properties in all markets are picked up easily. Both in the logistics and residential sector the strong occupier demand very much supports investor interest. Growing international trade, increasing retail sales and the growth of e-commerce has boosted demand for new high quality logistics. The residential developments can’t keep up with the population growth, which is only increasing the demand gap.

Value Add / Opportunities

In many markets the focus is on the top 10 cities in the Netherlands, with a special focus towards Utrecht, The Hague, Rotterdam and, above all, Amsterdam. This does leave room for investors aiming at value-add product in the better adjusted secondary markets, where vacancy, rents and pricing are recovering.

Over the past years we have seen a strong increase in office conversions. Outdated offices were converted to hotels, apartments and student housing. As demand for residential is only growing this trend will continue, also in the smaller cities.

The retail market faces significant challenges. While retail spending did increase it remains a fragile market with significant oversupply and thus a market with value-add opportunities.

Opportunities in the Dutch property markets can also be found in alternative markets. Alternative sectors with potential are student housing (the growth of international students creates further demand for good quality stock), and care homes, as the Netherlands is among those countries with the highest growth in 80+ age group households.


Matthias Pink – Germany Research

© Getty Images – 'Fernsehturm Berlin', Germany

Investing trends in Germany reflect the broader global and European trends of core scarcity and a move up the risk curve by investors.


Finding property will be even more challenging for investors and occupiers alike in 2017. Because further compression of initial yields is likely to be no more than marginal, investors will be targeting rental growth potential. We expect to see further rent increases in prime office locations because occupier demand is strong and supply scarce across most large cities.

There are now an unprecedentedly high number of people in work in Germany and demand for offices has never been greater. Vacancy rates are low and rental growth may be expected to be robust.

Construction levels remain modest so vacancy rates are at low levels across a range of uses, including offices and residential.

The German residential market remains a good choice for risk-averse investors because of the secure, diversified income streams it is capable of generating. Its scale means that scarcely any other property market worldwide offers such high liquidity combined with such low volatility. The easiest way to gain exposure is in one of the listed residential property companies, although a rising number of new-build projects also creates investment opportunities.


Finding the right balance between adequate yield and acceptable risk will become more challenging for investors. In the office sector, they will be aided by favourable conditions in the lettings market, leading us to predict a continued shift of investor demand to Grade B properties, secondary locations and second tier cities. Even at this late stage of the current investment cycle, there are still cities in Germany where acquisitions can be made at relatively high initial yields, despite favourable long-term prospects.

In the industrial and warehouse sector, logistics operators are increasingly penetrating major cities in order to ensure last-mile delivery. It remains to be seen what typical inner-city logistics properties will look like, but we believe that there is significant upward rental growth potential for the right premises.

Investors who value the stability of the German residential market, but for whom rental yields on apartment buildings have become too low, should look to the student apartment market. Such assets offer higher running yields, combined with the opportunity to benefit from further yield compression as the sector becomes increasingly institutional. The same is true of the micro-apartment sector excluding student accommodation, although this is still very modest in size.

Opportunistic/Value Add

Niche sectors offering stable returns, such as car parks and nursing homes, will move even higher on investors’ agendas. We therefore expect greater yield compression in these sectors than in the established sectors.

‘Value add’ opportunities may be found in the retail sector, such as retail properties in secondary areas that offer conversion opportunities. For example, to residential or logistics or even to mixed use communities as they have in parts of the USA. Retail properties in good (not prime) locations occupied by non-performing tenants (e.g. department stores, mid-price fashion chains) also offer re-development opportunities. Development and re-development of distressed offices offer an attractive opportunity, too.


Wioleta Wojtczak – Poland Research

© Getty Images – Zlote Tarasi Shopping Centre, Warsaw, Poland

Poland has changed significantly over the past decade in terms of its investment qualities. It is no longer just a low-cost, near-shoring option for occupiers, but contains cities competing directly with the most prominent cities in Europe.

A large number of newcomer investors from South Africa, Germany, USA and other countries have already found a number of opportunities to invest in Poland and are still seeking for new projects others are seeking across all markets and country to find the right product.


High-quality offices in Warsaw and the best shopping centres across the country are the biggest targets for investors with core strategies in Poland.

The office sector is driven by strong occupier demand (record take-up of 833,000 sq m in 2015) from the Business and Technology sectors (40%). The unemployment rate in Warsaw is at 2.9% (October 2016 data). This means corporations are competing for talent with higher salaries and better premises, so occupier demand for Grade A workspace is strong.

Consumer spending growth is way above the European average (3.4% year on year in 2016) and new brands are constantly entering the market, which means occupier demand is strong in the retail sector too.

Core yields have compressed in recent years but, for the best assets, investors can still expect yields which are 40-150 bps above the European average.

Value add

Good market fundamentals are stimulating development activity, particularly in the office and shopping centre sectors. This creates constant competition among landlords to attract tenants, but distinct winners will emerge through innovative asset management, facilitated by cutting-edge technology. A five-year old building can be considered ‘secondary’ in this fast-growing market, so there are opportunities for physical updating alongside proactive asset management opportunities, especially of the many assets that are still well-located in their markets.


Investors would do well to consider opportunities in secondary cities, not only because prime assets in prime locations have become scarcer, but also because the letting markets are strong. This is mainly due to Business Process Operations expansions, which are stronger in second tier cities than in Warsaw.

Good quality retail schemes (shopping centres and outlets) in cities with populations of more than 150-200,000 people perform well and offer attractive returns as long as they are dominating schemes in their locations / towns / cities.

Near-shoring for business services is not a new trend in Poland. It has underpinned the development of the office sectors in all regional cities such as Kraków, Wrocław, Katowice, Gdańsk, Łódź, Kraków and Poznań. Properties in good locations with long-term leases offer good returns in these smaller markets. 

The growing importance of e-commerce is driving the demand for both inner-city ‘last mile’ distribution centres as well as large regional distribution warehouses serving not only Poland but also Germany –for example, Amazon’s warehouses. Although there is limited rental upside, these occupiers are A-class tenants and will provide secure income streams based on a growing, pan-regional sector. Over 11 million sq m of warehouse space in the country combined with record high development activity are a direct result of Poland’s strategic location in European logistic corridor They should be attractive to those seeking high-quality income streams.

Finally, new opportunities can be created in the residential sector of Warsaw and the student housing sector of the cities with significant student populations – Łódź, Poznań and Lublin and, in the future, Warsaw, Kraków, Wrocław and Gdańsk. Some new developments are already being planned by Golub GetHouse and Griffin Real Estate.

Another sector that is growing it the hotel sector with new investments developed and planned by Marriott, IHG, Best Western, Hilton and Puro and local developers and operators.


Gema de la Fuente – Spain Research

© Shutterstock – Madrid, Spain

Spain is on a steady recovery path, with improving business and consumer confidence. This means that the fundamentals for real estate investment look strong. The economy is expected to grow by 2.2% next year and unemployment in the big cities is falling, so office occupancy and increased retail spending should mean further recovery for core investors. Even in value add and opportunistic sectors, yields have squeezed but investors might still find opportunities to pick up higher-yielding real estate with longer-term growth prospects in the residential sector.


Core investors may need to pay high prices to get exposure in the prime CBD office markets of Madrid and Barcelona, but they are likely to enjoy some positive rental growth over the next few years. For 2017, we forecast that prime office rents will grow by 5.5% in Madrid and 2.3% in Barcelona.

Retail sales are also gaining some of the lost ground of the crisis and are expected to expand by 1.8% per annum over the next three years. Units in prime out-of-town schemes and prime high streets are sought after by expanding retailers, so rents are increasing in some segments. We believe that well-located urban units will perform well in the future because even the big, bulk retailers are seeking exposure to small-scale urban formats.

Value add

The strengthening of the occupational markets means that voids are likely to fall and empty buildings become an investment opportunity. A falling supply of prime office space in the CBD offers the possibility for older buildings to become marketable again after being refurbished and modernised.

Buildings that are less appropriate for office use can be converted into residential or hotel use. The tourism sector in Spain is booming and visitor numbers exceeded 75 million in 2016. The return of foreign second-home buyers also supports the revival of the residential sector in Spain’s coastal areas as well as some of the more visited cities.


Less established market segments, such as institutional grade student housing, care homes and multi-family housing offer potential to investors and operators who want to enter the market through development. Cities with solid employment, good infrastructure and established universities offer good fundamentals for this type of development.

Retail parks are gaining importance in the market as tenant mix and designs become more diverse and attractive and the sector presents good investment opportunity as we expect prime rents in high-quality schemes will continue to grow. Six out of the 17 regions in Spain have no retail parks so future development opportunities should be plentiful but investors will find it difficult to find standing assets in the shorter term.


Marie Josée Lopes – France Research

© Getty Images – The Grande Arch of La Defense, France

Investment activity has been strong in France; up by 13% in the first three quarters of 2016 compared to the same period last year. We believe the French market will continue to retain investors’ attention next year, although we anticipate a wait-and-see attitude leading up to the presidential elections. 

Core and Core-plus

Core investors are seeking big-ticket deals in Paris so any tower in La Défense coming to the market will be seen as an opportunity. The letting market in La Défense is strong and take-up rose by 165% in 2016. This could strengthen further as the district is well placed with its large Grade A floorplates to attract some of the financial companies that may relocate from London or seek alternative additional space in Europe following Brexit. Prime CBD offices will remain highly targeted by such companies and we expect the prime CBD rental growth next year to be at 2%.

Parisian high street retail will also be a good choice for risk-averse investors. We expect to see more trading activity because some investors may decide to dispose of their properties following the terror attacks. These have had a serious impact on the tourism industry potential but should not affect the fundamentals of French retailing and have to enjoy a ‘security premium’ in future as conditions improve and tourists return.

In France, core investments represent more than 80% of the total investment volume, as the market among French institutions is particularly active. Since prime assets in good locations are scarce, core investors are widening the spectrum of their investments by targeting less secure assets. Although development activity remains limited, it has slowly increased in recent years to meet this demand and offers to core/core-plus investors good opportunities to forward fund speculative office schemes.

Alternative assets have become extremely popular in France, as they have elsewhere. This begins to challenge the notion of what a ‘core’ asset actually is. Notable among favoured ‘alternatives’ are student housing, care homes and clinics. The share of alternative assets accounted for 19% of investment transactions during the first three quarters of the year against 6% during the same period last year. Yields hardened and can be as low as some traditional commercial assets. Core investors often open special funds to get exposure in these markets, especially those that offer coveted long-term income streams.

Value add and Opportunistic

Since core and core-plus investors are now treading on the toes of ‘value add’ and ‘opportunistic’ investors, we are seeing the latter groups slowly moving out of secondary locations to tertiary ones in order to find assets. More adventurous investors are increasingly forward-funding speculative development schemes in order to secure buildings, either for their own investment purposes or to sell on to increasingly adventurous core investors.

In France, as elsewhere, the appropriate position of assets on the risk curve is becoming more difficult to define. At the same time, the distinction between core and opportunistic investors is becoming more difficult to determine.


Peter Wiman – Sweden Research

Haakon Ødegård – Norway Research – Malling & Co

© Getty Images – Shopping street in Stockholm, Sweden

Real estate in Nordic countries has been something of a gilt-edged asset over the past 5 years. Particularly Norway, which did not see a marked recession after the financial crisis, and Sweden which has shown strong economic growth and robust occupier markets. Success in the tech sector would also seem to have insulated many Nordic cities from the disruptive effects of new technology. The only question now would seem to be whether such success can be sustained and for how long Nordic real estate markets will continue to outperform.


Offices in the Nordics and particularly in Stockholm have become very popular in recent years among investors in search of strong occupier demand, rental growth and relatively high yields on the global stage. Stockholm’s GDP in the metropolitan area grew 4.8% last year, far above the EU average. It is expected to show growth of a further 4% by the end of 2016. The prime CBD rental growth recorded in Stockholm between Q3 2015 and Q3 2016 has also been very high at 19.6%. Further growth at even half this rate would still make Stockholm’s offices a very attractive investment prospect in 2017.

Leading indicators show that the Norwegian economy is also looking positive going forward, and office vacancy in Oslo is down due to low new-build construction volume. Average office rents for signed lease agreements appear to have peaked after very strong growth in the run-up to 2014. They have not increased over the past two years and have even moved down slightly. But office rents in central locations are expected to increase in 2017 due to the low supply and high demand for central locations near public transportation hubs.

According to our latest Shopping Centre Investment Benchmark, Stockholm is the best city to target. The population of Stockholm is wealthy. GDP per capita is €59,000 and, most importantly, retail sales per inhabitant in Stockholm is €10,080, the fourth most lucrative retail market after Düsseldorf, London and Paris. Additionally, retail sales are expected to grow fast, by 2.6% pa on average until 2021.

Public properties where a tenant’s income is tax-financed, or have state or municipal tenants, are highly sought after by investors. The public property segment is becoming an established sub-market in Sweden for close to ten years and is becoming an established sub-market in the Nordic countries.

The residential market in the Nordics remains a good choice for risk-averse investors. There are, however, large regional differences, in Norway in particular, where Oslo has had enjoyed a tremendous value growth of more than 20% in 2016. Analysts are expecting close to double-digit growth for the residential market in Oslo in 2017 as well. However, there is significant focus on the downside risk, especially if interest rates should rise. Residential prices are however, in contrast to Oslo, falling in heavily oil-exposed cities like Stavanger. The residential market in Sweden has been an established investor market for many years and the long-term average for residentials is about one-fourth of the total transaction volume. In 2016 the transaction volume for residential amounted to SEK 48bn, which was the second highest figure on record.

Value Add

In Norway, as prime office and retail have seen a rapid increase in value as yields have come further down, several ‘value add’ cases have become increasingly attractive. Office-to-residential conversion projects will continue in central areas, where the expected price growth is looking very attractive. Modernisation of offices and retail premises to new and efficient concepts are also attractive projects, greatly increasing the potential rents.

In Sweden, regional cities with a population above 75,000 inhabitants, with positive population growth are of increasing interest to investors. Secondary locations such as suburban properties in Stockholm are already showing remarkably low yields illustrating, alongside many other cities globally the weight of money pressing on investment assets.

Logistics premises are also high on investors’ shopping lists, mainly thanks to the Nordics logistics corridor. The Nordics notably attract a large number of famous companies in temperature-controlled goods and frozen foods.


Alternative assets, especially care homes, are becoming extremely popular among opportunistic investors and we believe this will continue in 2017.

Data centres are also a growing targeted assets class which is first due to natural cooling efficiencies of the Nordics but also high connectivity, lower power costs, abundant resources of green energy and taxation incentives.


Mat Oakley – Commercial Research

Lucian Cook – Residential Research

© Getty Images – Castlefield, Manchester

The UK went through a profound change in its investing environment in 2016 after June’s vote to leave the EU. The referendum result created a far greater degree of political and economic uncertainty for both domestic and international investors.

While perceptions of risk and levels of caution have risen, none of this precipitated a mass liquidation event. The fundamentals of UK real estate were little changed in the short term immediately after the referendum. Currency changes did have a profound effect on returns for non-sterling denominated owners as the value of the pound plummeted immediately after the Brexit vote. But cheaper sterling also meant bigger bargains for new investors, some of whom had been playing a ‘wait and see’ game before committing to purchases in 2016.

In the longer term, changes in occupier behaviour, particularly in the financial sector and affecting London, are now beginning to emerge and can be seen as something that could change the type of property favoured by a wide variety of investors. There has been increasing investor interest in regional or, what might be termed ‘second tier’, cities in the UK, although how much of this is due to late cycle plays or the global search for yield, rather than London falling out of favour, is hard to determine. Certainly the UK is seeing the same interest in ‘alternatives’ that we have described in so many other jurisdictions this year.

On the positive side, the UK, in common with many other English-speaking countries, still offers safe title and transparent markets for investors looking to deploy capital globally for the long term and who may be faced with very different investing conditions at home.


It seems that institutional and other core investors in the UK have embraced sectors which were hitherto considered alternative and which are still being viewed as such in other parts of the world. The advantage of these types of investment are that yields are still relatively high compared to conventional sectors.

Our tips for core investors are specialist assets, such as data centres with secure income streams. Also, the low supply and high demand for logistics centres make these a sound and secure investment. Regional offices also fit high demand / low supply criteria as speculative development has been virtually non-existent in recent decades and ‘north shoring’ is becoming increasingly common among occupiers seeking to reduce costs but attract English-speaking talent from good UK universities. Such assets will increasingly be judged and valued in terms of the security and stability of the income they produce, rather than the extent to which they are desired and traded by other institutional investors. The return to fundamentals of occupier demand, supply scarcity and rental growth prospects matter far more now.

The same is especially true of multi-family housing. This is still a new sector in the UK, so in scarce supply, but it has already seen overseas institutional investment and will increasingly become an established investment class because occupier demand is increasing quickly. On the rural side, we anticipate that core investors will increasing seek to unlock land value through planning for development, particularly housing, which is a particular priority for the UK government and likely to remain so. Core investors will be assessing their portfolios carefully for development land potential.

Value add

More investors in the UK are looking for value-add assets in the face not only of low income yields but also the changing nature of occupier demand brought about by new technology, new working practices and new ways of trading.

In the commercial sector, there are new opportunities for retail warehouses which can adapt and incorporate some form of e-commerce distribution. In the residential sector, the limited capacity of traditional house builders offers opportunities for housing development for new and different types of tenure ranging from social and sub-market renting, through affordable rents, market rents, rent to buy, shared ownership, custom build, self-build and self-procurement. The name of the game here is land – opportunities to add value will arise on large sites that cannot be delivered as single tenure and sites not favoured by conventional house builders for open market sales.

Rural land, especially certain grassland farms in Northern regions that are subject to economic pressures and possible threats from the demise of the EU Common Agricultural payments, is likely to benefit from conversion to forestry. We believe demand for timber for both biomass and as a building material will grow in the UK and underpin value growth in this sector.


As sectors which in the past have been considered higher on the risk curve now become mainstream, there are few assets in the stratosphere of opportunity than before. Some of the contenders are care homes, retirement communities and healthcare facilities, although threats to health and social care budgets will tend to subdue this provision, despite clear end-user demand. Stalled residential development projects provide opportunities for ‘white knights’ to resuscitate them and may lend themselves for conversion to other uses or more mixed-use development.

On the rural side, the government’s support for renewable energy is a significant driver and the increased interest in energy storage may be particularly significant. We expect battery storage facilities and off-grid energy parks, capable of supplying a range of on-demand cooling, heat and power, to become an increasingly lucrative prospect for rural landowners. Up-to-the-minute understanding of the latest technologies and the right geographical locations will be required.

Other articles within this publication

5 other article(s) in this publication