Real Estate Country Facts

042009

„CommercialReal Estate in CEE –What Next?

“

Real Estate Country Facts

April 2009 / Page 1

Imprint and Disclosure Imprint Publisher and media owner: UniCredit Bank Austria AG http://www.bankaustria.at Editor: BA Real Estate Consulting & Investment, Karla Schestauber, Tel. +43 (0)50505-54784 Layout: horvath grafik design Dated: 8 April, 2009

Disclosure pursuant to Section 25 of the Austrian Media Act:

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Management Board: Erich Hampel, Chairman of the Management Board; Helmut Bernkopf, member of the Management Board (Corpo-rate Banking); Federico Ghizzoni, member of the Management Board (Central and Eastern Europe); Ralph Müller, member of the Man-agement Board (Retail Banking); Carlo Vivaldi, member of the Management Board (Chief Financial Officer); Stephan Winkelmeier, mem-ber of the Management Board (Chief Risk Officer); Robert Zadrazil, member of the Management Board (Chief Operating Officer, Global Banking Services).

Objective of the medium:

Information of the customer

Sources:

This publication is based on our own research as well as analyses of reports from various international and national sources, press re-ports and statistical data which we consider reliable.

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Despite diligent research and the use of reliable sources, UniCredit Bank Austria AG assumes no responsibility or liability regarding the completeness and accuracy of the information herein. This publication is not a proposal or request for proposal and shall not be con-strued as such.

Real Estate Country Facts

April 2009 / Page 2

The impact of the global financial crisis on real estate in CEE

The world has changed immensely since 15 Septem-ber 2008. The US Treasury Department’s decision to allow Lehman Brothers to go bankrupt unleashed a shock wave felt around the world that led to a significant decrease in people’s willingness to accept risk. The consequences were a steeper decline in stock prices on an international level, a massive increase in risk premiums, for example in credit default swap (CDS) spreads, and more tension on the interbank market, causing huge increases in refinancing costs for banks. Although the source of the crisis was the US mortgage market, since then the subprime crisis has been permanently superseded by the global financial crisis.

Central banks and governments around the world have

been striving to defuse the situation through expansive monetary and fiscal policies. Although interest rates have decreased significantly, additional liquidity has been pumped into the market, bank rescue packages worth bil-lions have been put together, and economic stimulus measures and many other programmes have been imple-mented, the financial crisis has impacted the real economy

at a speed and on a scale that has surprised all economic researchers. This has also disproved the decoupling the-ory, which held that most developing countries would be largely immune to the crisis. The International Monetary Fund (IMF) has been forced to adjust its growth projections downwards on multiple occasions and since March of this year is expecting the world economy to shrink by 0.5% and 1.0% the first global contraction in 60 years. It continues to predict a moderate recovery in 2010, with growth of be-tween 1.5% and 2.5%. According to the IMF, CEE (includ-ing CEE, SEE and the CIS) has been highly affected by the crisis due to the region’s large current account deficits, which require external financing. The financial crisis is having massive effects on the real economy

UniCredit Group’s projections for the CEE countries have also significantly worsened. Following real economic growth of 4.0% in 2008, the average growth rate in the CEE countries is now estimated to fall by 3.5% in 2009. The region’s strong economic involvement with Western Europe

Real Gross Domestic Product (GDP)

Change in % 2006 2007 2008e 2009f 2010f Bulgaria 6.3 6.2 6.0 -3.0 -0.9 Czech Republic 6.8 6.0 3.2 -1.8 1.6 Estonia 10.4 6.3 -3.5 -10.1 -1.5 Hungary 4.1 1.1 0.5 -6.2 -2.3 Latvia 12.2 10.0 -4.6 -14.5 -3.6 Lithuania 7.8 8.9 3.1 -9.2 -3.2 Poland 6.2 6.7 4.8 -0.5 1.9 Romania 7.9 6.2 7.1 -4.0 1.0 Slovakia 8.5 10.4 6.4 -0.5 2.1 Slovenia 5.9 6.8 3.5 -2.1 0.7 Croatia 4.7 5.5 2.4 -3.7 0.2 Kazakstan 10.7 8.9 3.2 -2.0 3.0 Russia 6.7 8.1 5.6 -3.9 0.6 Serbia 5.6 7.1 5.5 -2.5 -0.7 Turkey 6.9 4.7 1.1 -3.2 1.4 Ukraine 7.1 7.6 2.1 -9.0 0.5 CEE-17 6.8 6.8 4.0 -3.5 0.9

Source: UniCredit Research e … estimate; f … forecast

Real Estate Country Facts

April 2009 / Page 3

as well as the loss of refinancing opportunities abroad and the increasing reluctance of banks in the countries to lend, have noticeably weakened the economies there. In addi-tion, direct investment flows to the countries have declined. The Institute of International Finance (IIF) now estimates private net capital inflow of USD 30 billion for 2009, down from USD 254 billion in 2008. This is having particularly strong effects on countries with a high current account deficit, which are having an increasingly difficult time fi-nancing it. The result is massive pressure on a number of currencies. From September 15, 2008, to the end of March 2009, for example, the Ukrainian hryvnia fell by 58% against the euro, the Polish zloty by 40%, the Hungarian forint by 28%, the Serbian dinar by 24%, the Turkish lira by 24% and the Romanian leu by 17%. The Russian rouble is also showing signs of weakness with the price of oil declin-ing from a high of USD 150/barrel in the summer of 2008 to around USD 50/barrel. The central banks’ strong verbal support of their currencies and direct market interventions, have helped to stabilise exchange rate movements to a certain degree. Nevertheless, it is too early to tell how suc-cessful these interventions will be in the medium term.

Source: Datastream

CDS spreads, which reflect the country default risks,

have risen dramatically. Before the subprime crisis, the spreads were in the two-digit basis point range for many countries, but are now in the three- or even four-digit range for some. The IMF is working constantly to help countries with liquidity or even solvency problems.

The willingness on the part of the international commu-

nity to support countries with liquidity needs is extremely important. In this respect, the pledge to triple the means of the IMF to 750 bn USD is a step in the right direction.

To turn growth around, governments not only have to implement fiscal stimulus measures. First and foremost a stabilisation of the financial sector and a “normalisation” of bank lending must take place. The G20 continues therefore to concentrate its efforts on providing liquidity support, helping with recapitalisation and dealing with impaired assets.

Source: Bloomberg

With worsening real economies and increased risks, in-

ternational equity markets have declined considerably, and the fall in stock prices has been particularly dramatic in some CEE countries. Although the markets have settled down recently, risks of a further deterioration are still high.

Source: Bloomberg

Despite all these difficulties, the consensus expectation

is that most economies will recover somehow in 2010, when the massive efforts on the part of governments and central banks to stimulate the economy will take full effect. UniCredit Group also predicts that growth will resume in CEE in 2010 (+0.9%), but forecast risks are still extremely high.

CDS Spreads 5-years

0

200

400

600

800

1000

1200

01.0

1.20

07

01.0

4.20

07

01.0

7.20

07

01.1

0.20

07

01.0

1.20

08

01.0

4.20

08

01.0

7.20

08

01.1

0.20

08

01.0

1.20

09

01.0

4.20

09

in bp

Hungary Czech Republic Slovakia

Poland Russia

Exchange Rate Development 1.1. 2008 = 100

60

70

80

90

100

110

120

01.01.2008

01.03.2008

01.05.2008

01.07.2008

01.09.2008

01.11.2008

01.01.2009

01.03.2009

CZK/EUR HUF/EUR PLN/EUR

RON/EUR RUB/EUR

Share Price Development 31.12.1999 = 100

0

200

400

600

800

1000

1200

1400

1600

31.1

2.99

31.1

2.00

31.1

2.01

31.1

2.02

31.1

2.03

31.1

2.04

31.1

2.05

31.1

2.06

31.1

2.07

31.1

2.08

Russian RTS DAX 30

Prague SE PX Bulgarian Sofix

Real Estate Country Facts

April 2009 / Page 4

Commercial real estate markets suffer from the crisis

The serious deterioration in international conditions is taking its toll on the commercial real estate markets in CEE, but there are significant regional and national differences. The effects are being felt particularly in those countries that showed signs of overheating in 2007 and 2008.

A number of banks stopped granting loans to finance

real estate after 15 September. The banks that are still offering financing have become much more conservative in their lending policies. They are requiring drastically higher equity ratios, pre-letting levels, debt-service coverage ratios (DSCR) and interest coverage ratios (ICR). The margins reflect higher refinancing costs and the countries’ increased risk premiums. Smaller tickets stand better chances of being financed since the market for syndicated loans has come to a virtual stand still. Covenant breaches have largely been used to renegotiate and readjust loan condi-tions. Forced sales have been successfully avoided to a large extent in order to prevent a strong deterioration of prices.

Most banks are concentrating on their existing portfo-

lios since equity and liquidity problems as well as increas-ing economic risks are making it more and more difficult to lend. Rating agencies are increasing the pressure to im-prove equity ratios by lowering ratings or warning of a de-cline in ratings for the banks active in CEE. This has set a classic vicious circle in motion, with reluctance in lending resulting in further economic deterioration, leading to an-other round of credit tightening …

Real estate investment activity has already de-clinded

One of the effects of the financial crisis was the signifi-cant decrease in the amount of capital invested in commer-cial real estate in CEE. According to CBRE, a total of just EUR 9.2 billion was invested in CEE in 2008 as a whole (down from EUR 14.5 million in 2007), whereby the volume fell to EUR 580 million in the fourth quarter.

Investment Volume in EUR bn

Year CEE Austria Italy Germany

2005 5.8 1.7 5.0 42.2

2006 12.7 2.0 8.5 50.0

2007 14.5 2.8 10.0 55.0

2008 9.2 2.0 8.0 19.7 Source: CBRE, IRG

Despite the strong decline in investment volume, the CEE region managed to increase its market share in Europe from less than 6% in 2007 to almost 8% in 2008. Nevertheless, for 2009 as a whole investment volume in CEE is expected to shrink sharply.

Source: CBRE, IRG

The average transaction volume in CEE ranged from

EUR 50 million to EUR 70 million in 2008, with around 50% of the total volume flowing into the office sector.

The yield compression that started in 2005 and domi-

nated market development in 2006 and 2007 came to an end in 2008. The yield correction was especially drastic in CEE markets where market participants had particularly high expectations, like in Russia, Ukraine, Bulgaria and Romania, although the low number of transactions makes it difficult to estimate the precise extent of the correction. According to CBRE, top yields for the office sector rose in the fourth quarter of 2008 by 500 bp in Kiev to 14%, by 250 bp in Moscow to 10%, by 225 bp in Bucharest to 8.50% and by 175 bp in Sofia to 9%. The industry and logistics sector saw similarly drastic corrections. Relatively speak-ing, the market for shopping centres was able to hold its ground best, with the exception of Kiev, Moscow and Zagreb, where the increase in yields was particularly dra-matic.

The year 2009 will remain extremely difficult for inves-

tors. Listed real estate companies’ room for manoeuvre has been significantly reduced as a result of the fall in their stock prices. Investors without sufficient equity have com-pletely disappeared from the market. The investors who are still capable of acting are holding off in hopes of getting better prices. The fact that there is still a high level of inter-est in first-class properties can be observed in the opportu-

European Real Estate Investments in 2008

CEE

Germany

Italy

Austria

Rest of Europe

Real Estate Country Facts

April 2009 / Page 5

nity funds that have already started to extend their feelers. There is strong interest in good locations and high quality standards, particularly with energy efficiency and “sustain-ability” gaining in importance. Given the assumption that economies will stabilise again in 2010, the second half of 2009 and the beginning of 2010 could very well offer inter-esting opportunities for bargain hunters. We expect once-in-a-lifetime chances for investors with equity to build up an excellent portfolio at attractive prices.

Prime Yields

Office Yield change

Q4 07 – Q4 08 in bp

Prime Yields Q4 2008

in %

Bratislava 115 6.75

Bucharest 225 8.50

Budapest 100 6.75

Kiev 500 14.00

Moscow 250 10.00

Prague 132 6.50

Sofia 175 9.00

Warsaw 85 6.25

Zagreb 80 7.50

Shopping Centre

Belgrade 25 8.00

Bratislava 95 6.75

Bucharest 100 8.00

Budapest 100 6.75

Kiev 550 15.00

Moskow 300 12.00

Prague 130 6.75

Sofia 125 8.50

Warsaw 105 6.75

Zagreb 185 7.75

Logistics

Bratislava 200 8.50

Bucharest n.a. 9.00

Budapest 125 8.00

Kiev 500 16.00

Moscow 250 12.00

Prague 154 7.75

Sofia 125 9.50

Warsaw 125 7.75

Zagreb 175 8.75

Source: CBRE

The situation has become critical for a number of real estate developers. The international financial crisis has abruptly put a stop to many project developments. Aban-doned construction sites are not unheard of, especially in the CEE countries which have been hit particularly hard by the crisis. Projects that have not yet entered the construc-tion phase are not likely to be realised any time soon. Par-ticularly those developers who purchased land at very high prices assuming that real estate prices would continue to rise are facing problems. Even high pre-letting levels will not prevent unpleasant surprises. Some future tenants are also following a strategy of redimensioning and cost cutting (“downsizing”) in order to make it through the crisis. Here as well, a well-padded equity cushion is the key to surviving the looming correction process and emerging from the crisis stronger than ever.

In the medium to long term CEE markets still offer

good to excellent potential based on the gap between the individual economies and those of the rest of Europe. These economies will continue their catching-up process after the crisis, which is going to positively influence real estate markets.

Office properties – downsizing reduces demand

Lettings performance for office space in CEE started to decline in the fourth quarter of 2008. In unison with the expected downturn in employment, the market is becoming increasingly tenant-friendly. In order to get tenants to com-mit for the medium term, landlords are fully prepared to make rental concessions. Some tenants are taking advan-tage of the situation to switch to better locations and/or better quality at no additional costs. This trend will intensify in the coming quarters.

Especially rents in CEE countries where the currency

has depreciated greatly are coming under strong pressure. Because contractual rents for commercial real estate are generally in euros and in some cases in US dollars, ex-change rate changes ranging from 20% to over 40% are proving to be particularly painful. It is interesting that the quite high rents in prime locations seem to be holding rela-tively well, with many tenants there being less dependant on earnings in local currencies.

In the medium to long term lower rents are going to

support the development of a more sustainable office mar-ket, which will be driven by demand from local companies.

Real Estate Country Facts

April 2009 / Page 6

Retail real estate – impacted by the dramatic de-clines in private consumption

The situation is just as difficult for the retail industry. With rising unemployment rates, consumers are becoming increasingly conservative when it comes to making pur-chase decisions. The banks’ hesitance in consumer lending is also slowing down private consumption.

Discounters are doing well under these conditions and in some cases have even managed to gain market shares. Although the retail industry in CEE will continue to benefit from catch-up effects and an increase in purchasing power in the medium and long term, the short-term effects of the economic downturn will be quite negative. The predatory cutting of rents (“real estate cannibalism”) that has already begun to emerge will therefore continue to intensify.

Real Private Consumption Change in % 2006 2007

Bulgaria 8.5 5.1 4.5 -2.0 -1.4

Czech Republic 5.4 5.3 2.9 0.3

Estonia 12.7 7.9 -3.7 -12.5 -3.1

Hungary 1.9 -1.8 -0.1 -7.0 -4.7

Latvia 21.2 14.8 -10.6 -20.1 -7.3

Lithuania 10.6 12.4 6.1 -14.8 -4.5

Poland 5.0 5.0 5.3 -0.8 2.2

Romania 11.6 9.8 8.4 -5.9 1.2

Slovakia 5.8 7.0 6.1 1.3

Slovenia 2.8 5.3 2.2 -0.9 0.2

Croatia 3.5 6.2 0.8 -3.0 0.0

Kazakstan 12.6 10.8 -1.2 -2.3 3.0

Russia 11.2 12.8 11.5 -7.8 1.0

Turkey 4.6 4.6 0.8 -4.8 1.5

Ukraine 14.4 17.1 11.6 -17.5 -3.1

Real Exports Change in % 2006 2007

Bulgaria 8.7 5.2 2.9 -11.6 -2.3

Czech Republic 15.8 14.9 6.9 -7.8 5.7

Estonia 11.6 0.0 -1.1 -5.5 -1.8

Hungary 18.6 15.9 4.6 -11.0 2.8

Latvia 6.5 10.0 -1.3 -10.0 -1.7

Lithuania 12.0 4.3 11.5 -12.6 -3.9

Poland 14.6 9.1 5.8 -5.2 4.8

Romania 10.4 7.9 19.4 -6.7 6.5

Slovakia 21.0 13.8 3.2 -7.1 2.7

Slovenia 12.5 13.8 3.3 -6.5 2.2

Croatia 6.5 4.3 1.7 -4.0 0.0

Kazakstan 6.5 9.0 -1.0 -10.0 6.5

Russia 7.3 6.4 0.2 -7.2 2.9

Turkey 6.6 7.3 2.6 -10.0 6.0

Ukraine -7.6 2.8 6.7 -10.0 9.0

Source: UniCredit Research

2008e 2009f 2010f

1.0

2.0

2008e 2009f 2010f

Real Estate Country Facts

April 2009 / Page 7

Logistics – strong downturn in trade is becoming painfully apparent

Demand for logistics space is generally closely related to the development of trade. A poor outlook for the retail industry and a decline in exports are having a slowing ef-fect. According to the World Trade Organisation (WTO) world trade is on track this year to record its largest decline in 80 years. Properties located in industry clusters such as the automobile industry or automotive support industry are disproportionately feeling the effects of the crisis. A rela-tively better performance is expected from properties in locations that are not only easy to reach but which also offer the possibility of flexible usage.

Nevertheless, the logistics industry will profit in the me-

dium and long term from the additional infrastructure devel-opment measures that are consciously being implemented by some governments to stimulate the economy. The de-cline in land prices should also allow rents to return to rea-sonable levels.

We must not lose sight of the end of the crisis – it is time to prepare for a unique window of oppor-tunity for countercyclical action

Real estate markets are cyclical, with contraction phases usually lasting three to four years. The international financial crisis brought the normal cyclical contraction for-ward in most CEE countries and increased the extent of the correction. We expect the window of opportunity for coun-tercyclical action to be quite short-lived. Nevertheless, to keep risks as low as possible, moves should be made in phases and be locally diversified. With further correction of yields, it should be possible to take initial steps in the sec-ond half of this year.

The real estate players who pursue active crisis man-

agement and successfully weather this extremely difficult period of increasing yields and falling rents will be ahead of the game. It is important to have enough equity to be able to take countercyclical action when the opportunity arises. The crisis will separate the “wheat from the chaff” and will offer unique opportunities to those who can take action during this time of crisis.

Trends: • Still no economic recovery in sight – the rounds of downward forecast revisions continued in March 2009. • Forecasts remain extremely uncertain – especially the financial sector still has to come to terms with the deleveraging

process, which can only be accomplished with the help of public authorities and central banks. • Still no foreseeable end to the investor strike – investors are still holding off when it comes to investments in commercial

real estate in the hopes of further declines in prices. Bargain hunters with sufficient equity will gain once-in-a-lifetime op-portunities for action.

• LLL is turning into LPE – “Location, location, location” is becoming “Location, property quality, energy efficiency”. • Market correction is accelerating – poor locations and bad quality are losing value at a disproportionate rate. • The end of purely speculative developments – speculative projects lack demand and the trust of the market. • “Real estate cannibalism” is intensifying – there are limited amounts of locations for first moves, resulting in the predatory

cutting of rents. • Building management is becoming increasingly important – there is still a great deal of potential for cash-flow optimisation

from building operations and management (cutting operating costs). • “Green buildings” will gain in popularity in the medium and long term – higher rent potential, higher occupancy rates and

higher increases in value will convince tenants and buyers. Source: IRG, Real Estate Research

Real Estate Country Facts

April 2009 / Page 8

Contact: Department Real Estate Lassallestraße 5 A-1020 Vienna Real Estate Consulting and Investment Karin Schmidt-Mitscher Tel: + 43 (0)50505 – 54941 karin.schmidt-mitscher@unicreditgroup.at Franz Unger Tel: + 43 (0)50505 – 56381 franz.unger@unicreditgroup.at Real Estate Research Karla Schestauber Tel: + 43 (0)50505 – 54784 karla.schestauber@unicreditgroup.at

International Real Estate Finance Teresa Maria Dreo Tel: + 43 (0)50505 – 555333 teresa-maria.dreo@unicreditgroup.at Anton Höller Tel: + 43 (0)50505 – 55980 anton.hoeller@unicreditgroup.at Commercial Real Estate Günter Hofbauer Tel: + 43 (0)50505 – 57488 guenter.hofbauer@unicreditgroup.at Werner Zimmel Tel: + 43 (0)50505 – 62600 werner.zimmel@unicreditgroup.at