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A Sunny Forecast for Spanish Property

Investors from around the world are betting on Europe’s fastest-growing economy

Not since the Moors invaded Spain starting in 711 has there been such an influx of foreigners. In addition to 4 million immigrants who have come to supply labor to a booming economy, foreign investors are scouring the country for deals.

Foreign real estate investment companies from Canada, Ireland and England, among others places, accounted for some 98% of the record €2.75 billion ($3.63 billion) in retail real estate investment last year, according to Edward Farrelly, head of capital markets research at CB Richard Ellis Spain in Madrid.

“We identified Spain as an attractive market for our investor group some time ago," says Thomas Dowd, a partner at Quinlan Private, an Irish development firm, which spent €300 million ($396.29 million) on a Spanish shopping center last spring. "Our investment should benefit from continued, strong economic growth there."

There is no question Spain is hot—the hottest economy in Western Europe—and real estate investors know it. Total investment in commercial property increased 47% in 2006, to about €8.8 billion ($11.62 billion), says Farrelly. Office investment totaled €3.86 billion ($5.10 billion), up 49%; investment in hotels was €1.8 billion ($2.38 billion), up 29%, and industrial, €430 million ($568.00 million), a 33% increase.

Why Spain? Its economy has been heating up steadily for 10 years, making it a beacon among European Union countries. INI, Spain's national statistics institute, estimates that the economy grew by 3.9% in 2006, its biggest rise since 2001. Across Western Europe GDP growth averaged 2.7% last year.

The rosy economic news helped thrust stock market growth past other western European markets last year, says Antonio Zoido, chairman of Bolsas y Mercados Espanoles, the operator of Spain's four stock exchanges. IBEX, the leading index of Spanish shares rose 32%.  Metrovacesa, the biggest Spanish property developer, which is splitting into two companies this year, and Sacyr Vallehermoso, a construction company, led the IBEX streak.

And there is no sign of substantial letup in 2007: INI expects GDP growth of 3.5%. "The fundamentals are fantastic," says Andrés Escarpenter, international director and general manager of Jones Lange LaSalle in Madrid.

Spain has created 6.5 million jobs since 1995 and unemployment has fallen to its lowest rate since the 1970s. Rising incomes have boosted household spending, making retail properties especially attractive to foreign investors. What's more, in a social revolution, younger people are moving out of their parents' homes into their own apartments, which they fill with furniture, electronics and housewares, says Paul Kennedy, head of European research at Invesco Real Estate.

Foreign companies were impressed--enough to dominate deal making in the retail sector. They were responsible for nearly all the shopping center purchases in 2006, a year in which more than 3 million new square feet were added. In 2005, 38 new shopping centers and 12 expansions opened.

In May of last year, Ireland's Quinlan Private bought the 900,000-square-foot Diagonal Mar shopping center in Barcelona from Deka Immobilien Investment GmbH (DEKA), a German open-ended fund, for more than €300 million ($396.28 million).

But in October, that record was smashed by Canada's Ivanhoe Cambridge acquisition of Madrid Xanadu, a 1.4-million-square-foot shopping center, from The Mills Corp for €350 million euros ($461.58 million), as part of a bigger deal that included the acquisition of Xanadu Meadowlands in New Jersey. Also during the year, Ivanhoe Cambridge bought a 50% stake in Islazul Centro Comercial, a regional shopping center under construction near Madrid.

England's Resolution Property Plc, a privately-held group, acquired the 395,000-square-foot Barakaldo Retail Park near Bilbao for €220 million ($290.62 million). Resolution says it will invest €1.5 billion ($1.98 billion) in European retail properties on behalf of investors, including the endowment funds of both Yale and Harvard.

In August, Morgan Stanley upped its commitment to Spain, by purchasing with Spanish company Grupo Lar the 185,000-square-foot shopping mall Factory Guadacorte, in the southern town of Cadiz for €27 million.

Meanwhile, encouraged by their success at home, Spanish shopping center developers are expanding into central Europe—with projects in Poland, Romania, Bulgaria and the Czech Republic, for example. "The Spaniards are invading Europe," says Escarpenter of Jones Lang.

With vacancies in the bustling Madrid and Barcelona central business districts as low as 1 percent, prices for office properties have been rising—and yields have been shrinking. Despite the rising rents, Spanish investors are looking abroad for higher yields, expanded portfolios and, perhaps most important, geographic diversification.

Until recently, Spanish developers and construction companies have stayed close to home, says Neil Livingstone, a director at Colliers International in Madrid. "Now they're going abroad." They are also buying up foreign companies for diversification. For example, Grupo Ferrovial SA, Spain's third-largest construction company by market value, acquired British airport operator BAA in 2006.

Yields, the relation of income to cost, were in the low 6 percent or high 5 percent range last year. Now, they're in the high 4 percents to about 5 now, making property more expensive, says Jones Lang's Escarpenter. But that's not slowing acquisitions.

"The strong demand from domestic and international investors during the year continued in the fourth quarter," Escarpenter says about office space investment. "Broadly speaking, Spanish investors completed the highest number of transactions, while international investors secured the largest ones."

Foreign money accounted for about 20 percent of the €3.86 billion in office investment last year, says Farrell.

The most significant office transaction was GE Real Estate's €650 million ($858.65 million) acquisition of a portfolio of eight properties – mostly in Barcelona – from Astroc Mediterraneo SA. That doubled GE's real estate investment in Spain and Portugal to more than €1 billion ($1.32 billion), with an emphasis on office and logistics centers. "The office and logistics market in Barcelona is very attractive given a good outlook for rental growth and favorable economic perspectives," said Marcelo Horcel, chief executive officer of GE Real Estate Iberia, in a statement at the time of the transaction late last December.

The year ahead looks equally strong, Jones Lang said in a recent report. "Much of the spending will be for redevelopment and will originate from companies rotating assets, which were in portfolios for some time and from sale & leaseback deals. Next year "should see in our view an increase in investment volumes and further large transactions," Jones Lang said. "We anticipate a 2007 in which domestic investment funds and international fund management will continue with leading roles in the transactions that are completed."

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