Frédéric Tempel: "In 2006, the market environment was marked by increasing volatility levels, higher than those observed since 2003-2004. Indeed, companies’ prices were driven by divergent factors: the tightening of monetary policies, higher long-term interest rates and the degradation of the dollar have all weighted on growth prospects in the medium term while the acquisitions, the excellent financial results and surveys announcements of the industry have been really supportive. This explains the results on a one-year horizon have become a little less predictable and that rising of stock market indices has been more uneven than in previous years. Thus, the volatility of the EPRA Eurozone index rose from 11.3% in 2005 to 14.3% in 2006. Total performance of stock markets in the euro area as measured by the Dow Jones EuroStoxx totalled 23.02% and the real estate sector, measured by the EPRA Euro reached 48.90%.
This outperformance of the real estate sector over the period was primarily due to the pursuit of takeovers in the industry. Indeed the two main firms being subject to takeover attempts, Metrovacesa and Colonial – were rose 150% and 37% respectively over the year.
German real estate was at the centre of investors’ concerns earlier this year. There was a combination of forced sellers and opportunistic buyers of real estate (predominantly Anglo-Saxon) who wished to position themselves in a market that has created one of the worst performances of the last five years. In addition the German economy seemed to be able to improve its rate of economic growth in 2006, benefiting from restructuring carried out and restarting the cycle of productive investments. Finally, the German government announced its intention to consider the implementation status of property tax transparency. The main German property company IVG Immobilien, showed an increase of its stock price of 83% over the year.
Performance over the year in the Fund reached 51.91% for A shares. The main operations consisted of reallocating the cash released following the takeove bids of Metrovacesa and Colonial. The amount invested in real estate promotion companies (Fadesa, K & B, Nexity) was sold and reinvested principally in securities of the company ICADE. Finally, a marginal investment (less than 5%) was invested in Asian and American companies positioned in very robust niche markets.
The medium term outlook remains positive on the sector as investor appetite for real estate should continue to support prices and the cycle of office rentals should gradually improve."
Performance Review 2007
Frédéric Tempel: "2007 was mainly marked by a credit crisis triggered by the loss of value of U.S. second grade mortgages, called "subprime". The relatively high cost of these loans, coupled with falling house prices in the U.S., has led to rising defaults and a consequent loss of confidence in the value of these receivables. This led to the liquidity crisis on the debt markets and also to significant losses for banks.
More generally, financial markets are concerned about a systemic crisis; a destabilization of the entire global banking system. Today, it´s not just U.S. banks that are affected, but also British, Swiss and, to a lesser extent, French.The second risk is the contagion of the financial crisis to the real economy. In the U.S., the housing crisis has an impact on consumer sentiment, and by extension could curb consumption which represents nearly 70% of U.S. GDP. It is a major concern for the Fed, which consequently lowered its rates on several occasions throughout the year. The rates of "Fed funds" thus fell from 5.25% in September 2007 to 3% in late January 2008.These factors have heavily weighed on prospects for the housing sector in 2007 including Europe. Indeed, faced with losses suffered on U.S. mortgages, European banks have significantly tightened the conditions for granting credit in the fear of a risk of decline in the value of real estate assets. This is not geographically uniform. Great Britain seems particularly impacted, while at the opposite end of the scale, Scandinavian countries seem little affected. This potential decline in value began to materialize in the UK market as early as September; the index "IPD UK all properties" dropping 8.5% in the last quarter across the Channel, the most brutal decline since May 1990.In this context, the evolution of the European real estate market has been mainly determined by two factors: the level of debt on the balance sheet and the geographical location of real estate assets.The total performance (dividends reinvested) in the property sector, measured by the EPRA Europe index has was - 31.9%, the euro area having a smaller decline at -24.81%. The SICAV AXA Aedificandi showed a performance of -18.51% for the I share class and -19.16% for A share class.The main operations for the year 2007 have been to reduce our positions in companies with low profitability on dividends such as Immofinanz or Immoeast, or holding assets such as Silic. We then repositioned to more defensive sectors such as shopping malls with quality companies such as Corio and Liberty International."
Performance Review 2008
Frédéric Tempel: "During 2008, the prices of listed property companies in the Eurozone fell sharply, posting a slightly inferior performance compared to general stock markets. From the 31 December 2007 to the 31 December 2008, the EPRA Eurozone index FSTE fell 43.4% while the Eurostoxx 50 was down 42.4% over the same period. This sector’s underperformance for the second consecutive year reflected the fact that real estate was among the first direct victims of the credit crisis that began in 2007 and was considerably amplified in 2008. The sector should be able to display better performance when the industry regains its status as a performing investment.
Securities have in fact returned to attractive levels on most valuation measures: significant discounts compared to the re-valued net assets and dividend rates are much higher than government bonds.
This low valuation was due to lacklustre prospects: first the most indebted companies will have to carry our difficult restructuring of their balance sheets and secondly, letting prospects and vacation rentals will remain under pressure in a context of economic contraction.
However all countries and companies are not in the same situation. From a geographic standpoint, the countries of southern Europe (Italy, Spain, Greece), emerging Europe (Hungary, Turkey) and especially Great Britain and Ireland should experience the most brutal adjustments. As opposed to France, Germany, Benelux which appear in a better shape.
Inflation has decelerated in 2008, which has had differing impacts on real estate. On one side weighing on the outlook of rental indices but on the other hand allowing a moderation of monetary policy ECB interest rates over the year. The Fund showed a net performance of -44.35% against the index’s -43.38%.Top contributors to performance were the exclusion from the portfolio of Risanamento Deutsche Wohnen and Colonia Real Estate. In contrast, our overweight positions in British and Norwegian Property Land and our underweight position in Unibail, contributed negatively to the performance of the Fund. The comparison between the performance of the Fund and that of its benchmark were affected by the discrepancy between the weighting of Unibail Rodamco in the benchmark index which has oscillated between 25 and 35% whereas the maximum weight in issuer authorized by the regulations is 10%. This under-weighting has had an adverse impact on the relative performance of over 2%. The benchmark used for the Fund has, therefore, been changed from January 31, 2008. Now the Fund will use a composite score of 90% by the FTSE EPRA Eurozone Capped and 10% by the FTSE EPRA Global.
During the year, the Fund has maintained an exposure of about 5% to major UK property values given relatively attractive valuation level. We have however left the position on Liberty International and enhanced exposure to British Land and Land Securities. We have also strengthened our position on companies able to generate significant cash surpluses and boasting a healthy balance sheet, such as Icade, Silic, Wereldhave & Deutsche Euroshop. A number of companies were sold in 2008 either for reasons of a risky balance sheet (IVG Immobilien, Norwegian Property, DIC Asset or Pirelli Real Estate) or the preponderance of real estate promotional activity in the company (Orco, AFI Development, Strabag). Finally, the proportion invested in cash instruments has been slightly increased during the 2008 and but accounted for less than 7% at the end of the year."
Performance Review 2009
Frédéric Tempel: "The traded shares of European real estate recorded a strong growth in 2009. The first two months of the year experienced however a significant decrease, followed by a recovery in a context of improving credit markets and multiplying signs of a downturn.
Many real estate companies used the rebound to strengthen their balance sheets, including the issuance of Océane by Unibail and capital raising by Corio, Eurocommercial, Befimmo and Klepierre.
France experienced the best performance across Europe, the French land trusts benefiting from a favourable impact of rent indexation on the cost of construction for most commercial leases. Moreover, the relative resilience of the French economy also supported the sector’s prospects. However, the technical effect of indexation should stop in 2010 as rental market conditions remain difficult.
After a virtual freeze in the real estate transactions market, the end of the year experienced a weak recovery.
Germany has experienced a stonger recovery than elsewhere due to an increase of its exports and the proper functioning of the reflationary measures.
In Spain, the economic situation remains bleak. We can note the establishment of a new tax regime for property companies listed under the name SOCIMI. This plan offers a tax limited to 18% on results from the rental activity.
The Dutch economy, heavily dependent on exports also suffered from the crisis. The real estate situation, however, tends to improve with a recovery of investment, notably from German funds. Cap rates have stabilized but the rental demand remains sluggish.
Over the year, the Fund AXA Aedificandi (Share class A) shows a net return of 37.61% against the index which rose 38.28%.
Top contributors to performance were Cofinimmo, Befimmo Régions and Foncière des Régions, all under-weighted in the portfolio. Conversely, our under-weighted Gécina, Conwert and CA Immobilien Anlagen contribute negatively to the performance of the Fund.
During the first part of the year, we continued to focus on companies benefiting from a sound balance sheet, including the strengthening of Mercialys, with very low debt and less sensitive to real estate because of its location (malls). Meanwhile, we reduced our exposure on Klépierre given its overly high level of debt as well as on Gécina, thus performance suffered from a lack of clarity on its strategic direction.
In the second part of the year, during the market recovery, we rebuilt positions in companies undergoing restructuring and benefiting from attractive valuations. We have increased our exposure to Sponda and Prologis European Properties. In addition, we increased our exposure to stocks with high dividends such as Vastned Retail and Nieuwe Steen.
Performance Review 2010 - Year-to-Date
Performance since 2006
Investment Process and Strategy – How does the Fund Manager Invest?
AXA WF Framlington Europe Real Estate Fund is an actively managed listed real estate fund. It aims to benefit from the growth potential of the European Real Estate market (dividends reinvested) over a five year rolling period, by investing in listed securities of the real estate sector in Europe.
We believe that markets occasionally display inefficiencies that active managers can measure and exploit to achieve added value versus a benchmark.
Specifically for listed real estate securities that have equity like performance characteristics and that follow the supply and demand of the diverse underlying properties within the portfolios of issuers, the primary market inefficiencies include perceived lag in property valuations and its reflection in stock prices as well as the relationship between interest rates and property demand and its effect on stock prices.
Since 1970, our listed real estate, or European Real Estate strategy has performed consistently with the same investment philosophy and strategy. The fund’s consistent out-performance is indicative of the manager’s ability to manage the strategy successfully in changing market conditions.
Sources of added value
The fund’s main sources of added value are stock selection and tactical rotation of property type and geographical (macro and micro) exposure.
We believe that the main sources of added value stem from the following key advantages of our investment approach:
- Focus on bottom-up stock selection based on proprietary stock, real estate and macro economic research. Portfolio construction is led by stock selection and the relative value of the stock rather than through top-down allocation. We analyse each company and make our selections based on strategy, business model and relative value considerations. AXA REIM’s valuable analysis of the key drivers and risk elements of the various property types and cities/countries across Europe is taken as an input to determine the environment and the trends of the real estate sector.
- Diversification across types of property and location. When assessing the weight of the strategies and positions in the portfolio, the portfolio manager will take into account the underlying real estate exposure of the companies and his desired property type and location mix. The real estate investment universe includes all property types.
- Additionally, the portfolio managers diversify into real estate related sectors, which have a high dividend policy, backed by tangible assets and stable cash flows. The portfolio benefits from AXA REIM’s high-quality overview on the real estate markets and AXA IM’s wider listed equity structure and expertise.
AXA IM’s investment process for listed real estate combines bottom-up and top-down inputs resulting in a portfolio containing good business models generating long-term value for shareholders. This, together with the tactical rotation of real estate sector and geographical exposure constitutes our main sources of added value.
The listed real estate strategy invests in the core universe of listed European real estate stocks. Additionally the portfolio manager diversifies into other sectors that have similar financial characteristics to the listed real estate sector this includes companies with a high dividend policy, that are backed by tangible assets and that have stable cash flows. The total investment universe comprises approximately 200 stocks. To this we apply our three-step process illustrated by the diagram below:
Step 1 – Fundamental Company Research: Stock analysis & Issue selection
In analyzing stocks, the investment team focuses on two key factors:
1. Corporate governance
The management team quality and financial strength of the company are critical in the analysis of the management’s ability to create value.
Key considerations include management stability and quality, their strategic vision and track record, whether the company is loyal toward minority shareholders, whether the growth is sustainable, etc. We carry out an in-depth analysis of the company’s financial situation, in particular the overall debt structure, refinancing conditions and the overall real estate exposure.
2. Idea generation
The nature and quality of the underlying real estate assets may vary enormously.
Key considerations include the property type (residential, offices, industrial, retail), geographical location (both at a macro and a micro level), tenant mix, vacancy rates and increase potential of rental income.
The breadth of our internal research resources allows the team to develop a comprehensive view of global and local real estate sectors. The engine of value creation varies according to the sector:
Step 2 – Portfolio construction
The team builds a diversified portfolio of companies invested in high quality assets. Based on the team’s fundamental research they look at the relative valuation looking at a number of multiples (e.g. price to cash flow, price to NAV) to asses whether the company’s valuation is realistic compared to the market price. The AXA REIM research team provides a concrete understanding of the different real estate sub-segments. They provide in-depth knowledge of the local property held by the real estate companies within our listed real estate portfolios.
The focus of portfolio construction is to ensure that most of the added value comes from stock picking while limiting overall volatility and maintaining a high level of liquidity. Stock selection and allocation weights depend on each stock’s outperformance potential as well as down side risk in light of the team’s general real estate view. We scale individual holdings according to potential upside, level of risk and available liquidity. Strong convictions resulting from our stock selection process translate into significantly active positions. However, we do monitor the country and sector composition of the portfolio that results from the bottom up stock picking approach to ensure that the portfolio is within -/+ 10% vs benchmark weights.
This combination of bottom-up relative valuation analysis carried out by the team with top-down market analysis provided by AXA REIM, allows us to build diversified portfolios that take into account the underlying real estate exposure of each stock to reflect the desired property type and location distribution within the portfolio.
Up to 10% of portfolio assets may be invested in stocks of companies with similar financial characteristics to the listed real estate sector i.e. companies with a high dividend policy, that are backed by tangible assets and that have stable cash flows.
The portfolio contains approximately 70 securities.
Step 3 – Continuous risk monitoring
Portfolio risks are monitored throughout the investment process at two levels:
- Risk of a value decline of the underlying properties addressed through fundamental research (at company and sector level) and portfolio diversification (both property type and geographical).
- Relative risk (defined as tracking error) addressed through analysis of the contributors to tracking error and expected ex-ante tracking error.
Portfolio construction tools, such as APT, enable the portfolio managers to quickly assess the impact of various risk factors on the risk budget. We also closely monitor portfolio liquidity, ensuring that no more than 5% of the fund is invested in stocks that would require more than one week to be traded on the market in normal market conditions.
In addition, AXA IM has a dedicated Risk Control team which monitors and reviews the transactions of all portfolios and their compliance with guidelines and regulatory requirements, providing a daily report on any breaches of regulatory requirements and constraints.
The real estate sector has remained in a trading range since September 2009 (see below chart of the EPRA Europe Index) and has just recently tested the upper band of that range supported by investors renewed interest in defensive stocks offering high dividend yields.
2) Healthy fundamental conditions for listed properties:
- Balance sheets have been cleaned (Real estate Net asset values fell + leas maturities increased + debt levels came back to historical levels of approximately 50% of the asset value)
- The sector offers attractive and sustainable dividend yields of 4-5%
- The low level of interest rates should encourage purchasers to invest in real estate and will continue to support asset prices
- There is a lack of supply of new buildings which should lead to a relatively quick decline in vacancy rates.
3) Considering the ownership structure of a number of companies (SFL, Gecina, etc…), a round of M&A activity is likely to take place in the coming quarters.