There may be nothing spectacular about the country’s recent economic performance, but it does offer a certain stability in a volatile and increasingly unpredictable climate – a solid advantage in the eyes of Slow, steady and sustained, the French economy is currently making a virtue of consistency, with overall growth coming in at 0.3% for the third consecutive quarter. No cause for complacency, certainly, but with global economic forecasts growing gloomier by the day, France is looking like a relatively safe bet. In fact, figures for Q3 were slightly stronger than generally expected [1]. The growth rate carried over at the end of the quarter stood at 1.2%, up from 1.1% in June. The latest forecasts for the end of the calendar year suggest an annual growth figure of between 1.3% and 1.4%, with little change on the cards for 2020.
Compared with the recent performance of many other European economies, this almost makes France a winning prospect. In the United Kingdom, despite similar levels of market activity, economic growth has been tailing off for some time, and figures for Q3 fell short of expectations. Germany has narrowly avoided official recession territory this quarter, but its economy is not anticipated to grow by more than 0.5% in 2019, rising to between 1% and 1.2% in 2020. Finally, the Italian economy remains stuck in the doldrums and is likely to end the year on an annual growth figure of just 0.1%, although again the forecast for 2020 (0.6%) is slightly brighter.
The way the French economy is structured, with a lower degree of exposure to the oscillations of international markets than many other countries, explains its ability to sustain this almost salutary performance. Exports of goods and services account for just 31% of France’s GDP; in Germany, it’s nearly 50%. This means that the progressive deterioration of the international climate amid tensions between the USA and China has less of an impact on France.
Its economy remains primarily driven by domestic demand, whether in the form of household spending or corporate investment. Many companies are taking advantage of low interest rates to upgrade their capital assets, pushing corporate investment up by 1.2% at the close of Q3. Meanwhile, household spending was up 0.3% at the end of the quarter. There are two main factors behind this boost in consumer confidence. First, the labour market is performing strongly; unemployment has been falling slowly, and this is expected to continue over Q4, reaching 8.3% of the active population by the end of the year. Second, households have enjoyed a bump in purchasing power, also likely to continue through Q4 as the latest round of cuts to the residence tax come into effect. Overall, by the end of 2019 French households should have seen their purchasing power grow by 2.3%, compared with just 1.8% in 2018.
The relative stability and resilience of the French economy appears to be giving it an edge in a particularly volatile global climate. Effectively, these qualities give investors and other financial decision-makers a clearer idea of what the future might hold in the medium term. Indeed, the perception of France as a relatively safe harbour is driving a good deal of the interest we are seeing from international investors.
The investment market in France
Powering ahead
All of the signs are there: 2019 is set to be a record–breaking year for the French investment market. We are now predicting that total investment will come in close to €35,000 million, and there’s more – Paris has overtaken London as Europe’s top investment destination. It’s an impressive showing for France in a year when the internAtional climate has grown decidedly bleaker.
Investment volume: A race to the topThings have been hotting up in the French investment market since 2019 began. If the first half of the year was strong, the second is shaping up to be exceptional. By the close of Q3, France had attracted investment of more than €23,000 million, a 26% gain on the same period of 2018. Even more remarkably, the market is currently outperforming its ten-year average to the tune of 61%. Last year’s record level of investment seems fated to be eclipsed by 2019’s stellar performance.
The buoyancy of the French market is especially striking given the fairly dismal state of affairs in the global economy as a whole. Across Europe, investment is down almost 6%, with a total volume of just under €190,000 million over the first three quarters of the year. Out of the three largest European markets, France is the only one to report positive investment growth. As a result, the French market’s third-place position is looking more and more secure as it edges closer to its biggest rivals: Germany, on a total investment volume of €55,000 million(down 1%), and the UK, on €39,000 million (down 28%).
Paris, without question, takes the crown: the French capital is now Europe’s premier investment destination, a pivotal feat that perfectly encapsulates the ebullience of the national market. Since the start of 2019, investors have poured €16,900 million into the city (up 27%), which is on track to close the year well ahead of London (€14,200million, down 36%). Strange times, indeed. Munich is predicted to take third place, but despite a 15% boost, on €4,600 million it’strailing far behind the top two.
Source of funds invested: France: a safe harbour for international investors : The summer of 2019 may have consolidated its position, but the French market has been gathering momentum for some time, impelled by a combination of key factors. Chief amongst them is the current international climate, a hot topic in recent months. Despite the economic downturn affecting every part of the globe, major international investors (particularly institutional investors) are still sitting on substantial sums, just waiting for the right opportunity. Those are no talways easy to find, and based on an analysis of the risk-return trade-off there is often a good case for caution. The current level of political and economic instability is a weighty consideration, as is the volatile money market. Amid these concerns, real estate – and particularly French real estate– starts to look like a tempting opportunity.
.jpg "Graph France Investment volume over times")
The appeal of the French property market is largely attributable to its financial resilience, the quality and strength of its lettings market and its high levels of institutional stability. This latter point counts for a great deal, as it allows a clear view ahead to the medium term – a rarity in the current climate. France has also benefited from the fall of the euro against most other world currencies, giving French real estate a competitive advantage with the promise of a potential upside.
The end result is that international investors now account for 50% of France’s total investment volume, compared with 41% a year ago. This level of international investment has not been seen since the financial crisis of 2007/2008. The first nine months of 2019 saw investors from the Asia-Pacific region make further inroads into the French market, particularly those from South Korea, who together invested more than €4,000 million – 21% of the national total and 29% of the total investment volume in Île–de–France. At the same point last year, these investors represented just 2% of the French market. This sudden surge has been on the horizon for two or three years; it seems that investors who have been sizing up the market for some time are now making their moves, with some major deals concluded since the start of the year. While this first wave of new entrants, primarily composed of South Korean institutional investors, will inevitably subside, there may well be others not far behind – namely new Korean funds and other investors from Asia and the Middle East.
The dazzling favour of South Korean investors has been so great that it has somewhat overshadowed the renewed interest from German funds and European pension funds, mediated by asset managers. These actors are increasingly drawn to properties valued at up to €100 million, traditionally the preserve of SCPIs. Although fairly unobtrusive, this uptick in interest has all the appearance of a long-term shift.
The international context has been crucial in this respect, but there are a few other factors at work. Summer 2019 brought another development that must take some of the credit for the record levels of investment that France has enjoyed this year: a rebound in domestic demand. Outstripped by international investors in the first half of the year, French buyers returned to the market with renewed zeal over the summer months. They now represent just over half (51%) of all investment in the French market since 2019 began. It’s a big step down from the 59% recorded this time last year, but a respectable advance on Q2, when French investors made up just 47% of the market. More aggressive investment strategies, coupled with the completion of some high–value deals outside the mainstream Paris office market, are the main factors driving this resurgence. Notable transactions involving French buyers include the acquisition of 33,000 sqm in the Académie building in Montrouge, 66,000 sqm in the To Lyon building in Lyon and equity shares in the Italie 2 and Passage du Havre shopping centres in Paris. Given that many French investors are currently cash rich and opportunity poor, this trend is unlikely to die down any time soon. At the close of Q3 2019, SCPIs were reporting an unprecedented level of investment, up as much as 75% year on year. Plenty to keep the engine churning, then...
France : Distribution of invested volumesCompared period: January - SeptemberSource
(1).jpg "Graph France : Distribution of Invested volumes")
Type and quality of transacted assets: Security rules OK : Demand is strong – there is no question about that. But how is the supply side bearing up? Here, the limitations of the French market become more apparent, although the same could be said for most other European economies. The rise in the number of international investors since the beginning of 2019 has pushed up demand for Core properties; these are now soaking up 82% of the total investment volume, compared to 72% at the same point last year. Unsurprisingly, new entrants prefer their acquisitions to be secured when taking their first steps in an unfamiliar market.
However, this renewed convergence around Core property is also an artefact of the influence of a handful of high–profile transactions on the rest of the market. Opportunities commanding unit amounts in excess of €500 million account for 24% of investment in 2019 so far, compared with just 9% in the first three quarters of 2018. Half of the investment volume for the first nine months of 2019 can be traced back to just 27 transactions; in the 2018 figures, you would need to take the top 38 transactions to reach the same proportion by the end of Q3, and the sums involved were much more modest.If there’s one catch in the extraordinary success of the French market in 2019, it’s here: with investment concentrated on just a few major transactions, there has been a spike in volume, but 20% fewer transactions, with the sharpest drops in the sub-€100 million segment.This level of market concentration explains another striking feature – the clear and sustained dominance of the office sector, representing over 70% of the total investment volume. Nevertheless, there has been a distinct shift since summer 2019 and we are now seeing gains across all other property types, from service provision (up 42%) to retail (up 13%). This revival in alternative investment options has coincided with the upturn in domestic demand.
Yields: The yield curve heads south In this highly upbeat market, where demand for Core property remains strong, prime yields have resumed their downward course. This marks a new juncture following three years of stability, at least in the office sector.
In the Paris CBD, for example, yields for the most desirable office buildings have now dropped below the historical benchmark of 3.0% to stabilise at 2.90%. This is entirely unremarkable given that, in addition to the prospect of reversion raised by rental growth, real estate assets still hold a relative yield advantage. At the end of September 2018, the spread of bond yields came in at 226 basis points. One year later, it’s back up to 316 basis points, exceeding the ten-year average (215 bps) by quite some margin.
Outside of the prime segment, distinctions are becoming increasingly fine, with Core+ and Value Add properties coming to the fore. In central Paris, the vacancy rate is so low, and the shortfall of Grade A property so acute, that the risk incurred by entering the lettings market is no longer a deterrent. Meanwhile, properties due for a rent adjustment (whether sublet, in need of a revamp or occupied by tenants on a short lease) might just look like golden opportunities for a secure investment with scope for creating value. These properties are now attracting attention from investors who would traditionally have confined themselves to the Core segment. Inevitably, this has produced a tighter yield spread for prime properties. While the quality of properties on offer is a key consideration, this yield compression can be seen in almost every location. Opportunities arising on the outskirts of the main established business districts, in emerging markets in Paris (the potential of the Grand Paris scheme is also a factor here) and even in regional capitals are now firmly on the radars of a growing number of prospective buyers. This is particularly true of European investors, who have proven very keen to participate in bidding for properties valued at up to €100 million, compounding the downward pressure on yields.
.jpg "Graph France : Prime yields by type of asset")