International Real Estate Investing

The world has become a market accessible to all those willing to get involved. Global trade, spearheaded by the multilateral efforts of a vast majority of the world's nations, is now common place and widely regarded as the engine of global economic prosperity. Advances in technology have increased the ease and cost of moving people around the globe. Great economic advances are underway in the world's two most populous countries, India and China, with other countries likewise engaged in growth. These factors combined with creative real estate ownership structures, like the Real Estate Investment Trust (REIT), already firmly entrenched in the United States and gaining popularity around the globe, have made international real estate both an opportunity and a reality for many people. For United States real estate investors accustomed to high returns on domestic investments, the global real estate market offers an alternative to the slumping domestic real estate market. Over the long term, the real estate industry appears bound toward increased global ownership and involvement. This article reviews some basic concepts of international real estate investing, the REIT structure, and some hot areas for foreign investment.

Keywords Diversification; International Real Estate; Real Estate Investment Trust (REIT); Real Property; Real-estate Backed Securities; World Trade Organization (WTO)

International Business > International Real Estate Investing

Overview

Innovations in transportation and communication combined with political stability and integration, and increased trade and cross border activities have created an environment in which an increasing number of people are expanding their real estate activities to foreign countries. This trend is in accord with the overall increase in global trade and investment as indicated by the creation and development of the World Trade Organization. Investment tends to be bilateral; most countries that invest in foreign counties also have foreign investors in their country's real estate. The investors buy, sell and trade real property, and real-estate backed securities. The investors may be individuals who invest relatively small sums, large amounts by financial institutions, investment companies, and multinational corporations or anything in between.

Investor Objectives

While the amount invested and the particular type of holdings varies, each investor typically desires growth, appreciation, portfolio diversification among other common investment goals. However, specific individuals may have a particular objective in addition to the typical goals. For example, a family may purchase a vacation home in a tropical area for their personal enjoyment while anticipating the appreciation of that real property. Financial institutions, investing their client's funds, typically seek capital appreciation in addition to a reasonable cash flow. In addition to investment, a multinational corporation may seek property for their own corporate use. For example, a US retailer may buy or lease a shopping center in Dubai, or a UK law firm may seek an office suite to expand its operations to the local market.

Real Estate Investment Trusts (REITs)

Diversification is an accepted practice within many asset classes, for example stocks, and in an investment portfolio as a whole. Diversification by country and by sector can provide protection against market fluctuations and provide strong returns. The push for international property investing, can be attributed to a lack of local opportunities. Diversification within funds that invest in real property can include international real estate investment trust (REIT). REITs are popular real estate investment vehicles in the United States and their popularity and use is increasing around the world.

A REIT, or Real Estate Investment Trust, is an investment structure created by an act of Congress in 1960. Prior to 1960, only wealthy individuals and corporations had the financial resources necessary to invest in significant real estate projects such as shopping malls, corporate parks and health care facilities. In response, Congress passed the Real Estate Investment Trust Act of 1960. This legislation exempted these special-purpose companies from corporate income tax if certain criterion were met. It was hoped that the financial incentive would cause investors to pool their resources together to form companies with significant real estate assets, providing the same opportunities to the average American as were available to the elite. Three years later, the first REIT was formed.

Function of REITs

REITs were designed to provide investors with the opportunity to participate directly in the ownership or financing of real estate projects by providing them with a tradable interest in a pool of real estate-related assets. REITs own, and often operate, income-producing real estate such as office buildings, apartments, shopping centers, warehouses and hotels. A REIT uses the pooled capital of many investors to purchase and manage income property (called an equity REIT) or mortgage loans (called a mortgage REIT). REITs are traded on major exchanges just like stocks. They are also granted special tax considerations, REIT are exempt from corporate tax provided they distribute 90% of their income to investors as dividends. Because REITs are stocks traded on exchanges they are highly liquid.

Worldwide Development of REITs

REITs have been popular in the United States since Congress authorized their use in 1960, and REITs are beginning to catch on in Asia. Singapore opened its stock market to REITs in 2002 and Hong Kong in 2005. Since 2000, Japan, South Korea, France, Taiwan and Malaysia have adopted REIT-like organizations. The governments of the United Kingdom, Germany and Italy approved REITs in 2007 and Finland and Spain followed suit in 2009 (Niskanen & Falkenbach, 2010). A REIT was implemented in Thailand in 2013 (“Thailand braces for impact”, 2013). Currently, Chinese law allows a type of quasi-REIT to operate on a restricted basis (Chan, 2011). With a majority of real estate development funded by banks, the potential for Chinese REITs is vast and would reduce bank exposure to the real estate market, create a more professional environment for property investment and provide access to the Chinese market for relatively conservative foreign investors. Foreign REIT capital is an important source of funding for investment in China. Real estate developers in China, for example, faced with increasingly tighter bank lending, are turning to funding from international REITs with capital to invest. Chinese law, however, has several obstacles to overcome before western style REIT investing can occur. For example, China prohibits funding to originate in the mainland, and therefore all funding must come from overseas, the Chinese tax rules are not as favorable as they are in the west which would eat away at profits. Even though domestic Chinese REIT market has not developed, interest remains high and China is seen as attractive option for foreign REIT funds seeking to diversify in Asia (Business China, 2005).

Applications

Proliferation of Global Real Estate Investment

The United States has been focused inwardly on growing the domestic economy and has had a relatively minor role in the global real estate movement up until the late twentieth century. While American construction companies and banks compete around the world for projects, investment bankers and advisors, and real estate developers have only more recently seriously moved into international real estate. Some of the factors that probably contributed to the move are worldwide financial deregulation, worldwide tax reform, declining property values in the United States, increased economic growth abroad, government emphasis on exports and better transportation and information technology. Factors that may have prevented a United States move into the global real estate arena were lack of foreign language skills among real estate professionals, thriving domestic economy, restated foreign financial markets, lack of professional training in international real estate and real estate personnel resistance to traveling and living abroad (Hines, 1988).

China, India & Latin America

Investors are always looking for new opportunities and international real estate investors are no different. Depending on the source, several areas of the world are considered hotspots for real estate investment. Latin America, China and India are repeatedly mentioned by commentators in the area. Even though investors may consider the United States to be the most stable and secure country for real investing, foreign investors are spreading their funds around to other parts of the world. According to the Association of Foreign Investors in Real Estate, respondents to a survey indicated a drop in global investment allocated from 55% in 2005 to 47% in 2006. The decrease reflects the increasing globalization of real estate investing ("Foreign real estate investors move money out of U.S.," 2006).

China's economic growth has been the story of recent years. According to a Chinese website, real estate consulting firm CB Richard Ellis reported that foreign investment in Chinese real estate soared in the first half of 2006 and that much of that investment originated in Northern Asia and North America. The report cited that North American foreign investment in Chinese real estate rose from 43% in 2005 to 51% of the first half of 2006 of foreign investment in Chinese real estate ("Foreign investment in real estate soars," 2007).

As a result of its rapid growth, India is widely considered a competitor with China for the world's attention in the global economy. In the short term, China has emerged as the consistent winner in the race for economic dominance for institutional real estate investors. However, over a longer time period, the two countries' differing approaches to economic development and structural factors will determine the fortunes of both countries and prospects of international real estate investors. For example, the population of India is now 200 million lower than China but according to United Nation projections, India's population will overtake China's by 2030.

However, China's population is being urbanized at a faster rate than India. While China's education system may be superior to India's, India has far more fluent English speakers. India derives an advantage from its legal system, which tends to enforce contracts more, has more stable property rights, and a generally more transparent government. Population growth, economic and income growth, and massive rural to urban migration create extraordinary demand for property in both countries which gives multinationals the opportunity to serve a huge unmet demand. Regardless of the comparisons, both countries may prosper and become economic successes as neither depends on the other for its prosperity and both will be important factors in international real estate (Menifee, 2007).

Brazil, because of its size economic potential, is also mentioned as the economic opportunity of the future. Brazil, however has obstacles to overcome, for example, lack of transparency, a complex fiscal structure, disorganized urban development due to expanding population and fragmented property ownership and poor property maintenance are cited as example of barriers to development. Despite these obstacles, commentators anticipate that major changes to real estate ownership, development, and finance in Brazil and the increased use of foreign capital and debt markets will drive Brazilian growth (Meyerowitz, 2007).

Individual Investors

While institutional investors, REITs and multinationals are important players in the global real estate market, they are not alone. Individual investors seeking a vacation home and weary of high real estate prices in traditional vacation areas are turning to deeply discounted locations in central and south America and eastern Europe. For example, a house on the beach in Nicaragua that cost roughly $500,000 to build may cost $10,000,000 in Malibu or Santa Barbara, California. With this strategy, investors can purchase more property for less money and diversify their investment portfolio beyond North America and afford some measure of protection to assets from creditors if something should go wrong. The risk in investing in such areas lies in choosing the right location at the right time. Moreover, non-English speaking countries may have confusing and obscure property laws and unscrupulous agents who artificially inflate prices or try to sell the same property to multiple buyers. The burden of research may be largely up to the investor as domestic real estate agents may be unable to offer advice. There are companies and publications that specialize in matching investors with foreign real estate opportunities and investors can avoid obvious pitfalls by visiting their prospect area. Some areas that have been cited as hot investment areas are: Calabria, Italy; Flamingo Coast in the Northern Yucatan of Mexico; La Ceiba, Honduras; Montevideo, Uruguay; Cartagena, Columbia; Montenegro in the Balkans; and, Malaysia (Heinrich, 2007).

Americans & Global Real Estate

United States citizens are getting involved in global real estate. Germany, France, Japan and the UK are top destinations for US capital. United States investors may also look to Argentina, Germany, Montenegro and Vietnam. Argentina is Latin America's most developed nation and has recovered from its 2002 economic collapse and estimates cite a 25% increase in property values in 2005. Germany's housing market appears to be in the midst of recovery and investors look to Dresden and Berlin for opportunities in residential real estate. Montenegro, a small country with a population of 650,000, is attracting international capital with its beach fronts and proximity to world class ski areas. Vietnam offers undeveloped beaches, lively economic growth and relaxed government restriction on foreign ownership of property (Esfahani, 2006).

In 2007, the United States faced an oversupply of housing and tightening consumer credit and returns on domestic real estate funds were leveling off. US REITs accounted for approximately 55% of the global REIT market and were suffering from the same housing slump. Excellent returns of approximately 12% a year attracted REIT investing in the United States and the sector grew significantly from the 1990's (going from $10 billion invested to over $300 billion in 2007). REIT consolidation limited the options for investors in the US REITs. The continued global acceptance of the REIT structure now offers investors the opportunity to invest abroad. Foreign real estate equity markets still have room to rise and can offer an opportunity for growth. US investment in commercial property appears to have nearly doubled, going from 6.7 billion in 2004 to 12 billion in 2005, according to real estate firm Jones Lang Lasalle (Esfahani, 2006). REIT returns were impacted along with other investments in the late 2000s and early 2010s due to a sluggish US economy and the financial crisis, but are predicted to rebound (Glassman, 2013).

Real estate markets around the world are affected by localized factors, therefore foreign investing offers the benefit of diversification. However, many foreign REITs are fairly new and have limited performance histories for investors to base their decisions on. Investors also face risk from geopolitical issues, limited public information, and reduced liquidity in trading. Despite these drawbacks, global REITs may be the right choice for some investors. Investors and their advisors should study the investment as with any stock. The quality of management, clarity of its investment strategy, and any available history of dividends and growth should be evaluated (Eidelson, 2007).

Conclusion

The world has become a market accessible to all those willing to get involved. Global trade, spearheaded by the multilateral efforts of a vast majority of the world's nations, is now common place and widely regarded as the engine of global economic prosperity. Advances in technology have increased the ease and cost of moving people around the globe. Great economic advances are underway in the world's two most populous countries, India and China, with other countries likewise engaged in growth. These factors, combined with creative real estate ownership structures like the Real Estate Investment Trust, already firmly entrenched in the United States and gaining popularity around the globe have made international real estate both an opportunity and a reality for many people. For United States real estate investors accustomed to high returns on domestic investments, the global real estate market offers an alternative to the slumping domestic real estate market. Over the long term, the real estate industry appears bound toward increased global ownership and involvement.

Terms & Concepts

Diversification: An investing strategy designed to reduce exposure to risk by combining a variety of investments, such as stocks, bonds, and real estate, which are unlikely to all move in the same direction. The goal of diversification is to reduce the risk in a portfolio. Volatility is limited by the fact that not all asset classes or industries or individual companies move up and down in value at the same time or at the same rate.

International Real Estate: Ownership and investment in real property in one country by citizens of another country.

Real Property or Real Estate: Property that consists of land and anything attached to it.

Real-estate Backed Securities: An investment instrument funded by and based on the performance of and income generated by real property holdings, other than an insurance policy or fixed annuity, issued by a corporation, government, or other organization which offers evidence of debt or equity.

Real Estate Investment Trust (REIT): An investment structure used to move capital into real estate that is sold to investors as shares through exchanges.

World Trade Organization (WTO): Organization of approximately 150 trading nations committed to liberalizing world trade.

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Suggested Reading

Bogoslaw, D. (2007, July 26). Real estate bets in shaky times. Business Week Online, 7. Retrieved October 22, 2007, from EBSCO Online Database Business Source Premier. http://search.ebscohost.com/login.aspx?direct=true&db=buh&AN=26003726&site=ehost-live

Eidelson, B. (2007). Think globally. Financial Planning, 37, 117-120. Retrieved October 22, 2007, from EBSCO Online Database Business Source Premier. http://search.ebscohost.com/login.aspx?direct=true&db=buh&AN=26852973&site=ehost-live

Meyerowitz, S. (2007). International real estate. Real Estate Finance (Aspen Publishers Inc.), 23, 1-2. Retrieved October 18, 2007, from EBSCO Online Database Business Source Premier. http://search.ebscohost.com/login.aspx?direct=true&db=buh&AN=24474025&site=ehost-live

Torto, R. (2002). Benefits and issues in global real estate investing: a review of the research. Real Estate Issues, 27(3/4), 38. Retrieved October 22, 2007, from EBSCO Online Database Business Source Premier. http://search.ebscohost.com/login.aspx?direct=true&db=buh&AN=9693409&site=ehost-live