January 2012 Japan Real Estate First Quarter 2012

Transcription

1 January 2012 Japan Real Estate First Quarter 2012 Executive Summary After a short contraction in the aftermath of the Great Tohoku Earthquake in 2011, Japan s economy is now set to recover. The growth rate is, however, expected to be weaker than originally thought in A strong yen, together with an economic slowdown in Europe and China, will weigh heavily on Japan s net exports this year. On the other hand, domestic demand is expected to be relatively strong due to the government s reconstruction initiatives. In Japan s capital markets, conditions are still favourable for refinancing existing debts, creating a limited number of opportunities to acquire distressed assets in Japan, especially in the office sector. Some foreign investors have been attracted to high yielding non-office assets. A logistics portfolio deal completed in December 2011 became Japan s largest real estate transaction of the year. Weak J-REIT share prices limit the number of equity offerings, which then constrains the volume of real estate transactions. Among the property sectors, the industrial and residential sectors showed resilience in the fourth quarter Rental recovery has yet been seen in the office sector, and in the retail sector rents weakened in key submarkets in late Total returns turned positive in all sectors, due to a recovery trend in appraisal values. The Research Topic section of this quarterly report provides a brief analysis of Japan s REIT market. In its first decade, the J-REIT has carved out an important role in the Japanese real estate market and has become one of the major global REIT markets. Among the J-REIT s successes, its regulatory structure has brought significant improvement to the transparency of Japan s domestic real estate market. In addition, J-REITs have added stability to the market by consistently purchasing assets throughout the property cycle. Nevertheless, the J-REIT market faces big challenges in the decade ahead if it is to continue growing. In this edition, we explore the J-REIT s past decade of successes and the challenges lying ahead. 1 P age

2 January 2011 Table of Contents: Page Prepared by: Koichiro (Ko) Obu Director Head of Research, Japan +81 (0) koichiro.obu@rreef.com Orie Endo Assistant Vice President +81 (0) orie.endo@rreef.com 1. Macro Economy Capital Market and Pricing Market Fundamentals... 9 Office... 9 Retail Residential Industrial Research Topic The J-REIT s next 10 years Important Notes P age

3 First Quarter 2012 Market Outlook 1. Macro Economy A short economic contraction followed the Great Tohoku Earthquake of March 2011, but Japan s economy is now poised to recover. The growth rate, however, is expected to be weaker than originally thought, with the Japanese economy expanding at a pace below 1 percent in The drag on economic growth can be traced largely to net exports which are negatively impacted by the persistent strength of the yen and will be squeezed even more in 2012 by the economic slowdown in Europe and China. On the other hand, domestic demand will be a mitigating variable, as it is expected to be relatively strong due to the government s reconstruction initiatives. Annualised grow th 4% 2% 0% -2% -4% -6% -8% -10% -12% Chart 1 GDP Growth Outlook for Japan Q1 Q2 Q3 Q4 annual growth Previous financial crisis in Japan (1998) Dot.com bubble burst Global recession DB Forecast Great Tohoku Earthquake aftermath Source: Deutsche Bank Japan Economics Weekly Data as of January 2012 F = forecast. Please refer to Important Notes (page 22) The diffusion index of the Tankan Survey conducted by the Bank of Japan stabilised in It is a significant recovery from the trough in 2009 but further improvement is uncertain given the strong yen. The deepening sovereign crisis in Europe also casts a shadow over business activities for Japan s exporters. Chart 2 Diffusion Index of Business Conditions Business Condition Leading Index (LHS) Diffusion Index of Tankan Survey (RHS) (2005=100) Diffusion Index of Business Conditions: ('favourable' minus 'unfavourable', % points) Sources: The Bank of Japan, Japan s Cabinet Office, RREEF Real Estate Research Data as of January P age

4 Japan s consumer price index (CPI) moved upward amidst supply constraints after the earthquake in However, a moderate deflation is expected again in 2012 because of lack of gross demand combined with lower growth in commodity prices. Deutsche Bank s economists expect the Bank of Japan to keep the interest rate close to zero through to Just as the sovereign debt led to the current economic turmoil in Europe, it is also a long-term concern for Japan. The country s ratio of public debt to GDP (213 percent) is the highest among major nations. RREEF Real Estate, however, does not expect this to cause any immediate problem in Japan s macro economy. The stable and low yield of the government bonds, about 1 percent, and the persistent strength of the yen point to a level of confidence in the market. Chart 3 Forecast of Short-Term Interest Rate and CPI % Call Rate (overnight) CPI 2 DB Forecast Source: Deutsche Bank Japan Economics Weekly Data as of January 2012 F = forecast. Please refer to Important Notes (page 22) 4 P age

5 2. Capital Market & Pricing With little risk of inflation, interest rates are expected to remain stable, thereby supporting favourable credit conditions for borrowers. The Bank of Japan s DI for the lending attitudes of banks (orange line in Chart 4) has improved for more than two years. The only exception was lending to new developments. The amount of lending by banks for new real estate projects decreased due to lack of new investment demand. Chart 4 Real Estate Lending by Japanese Banks 20% growth of lending to new real estate projects (yoy, LHS) lending attitude DI of banks to all industries (RHS) lending attitude DI of banks to Real Estate industries (RHS) 20 0% -20% 0-20 Diffusion Index (DI) -40% -40 Source: Bank of Japan, RREEF Real Estate Research Data as of January 2012 Similarly, the transaction volume for real estate lending stabilized at JPY 2 trillion in 2011, a relatively low level in spite of the stable recovery of credit conditions. The deal flow was believed to be limited in 2011 due to favourable refinancing conditions and low stock prices which constrained J-REIT transactions. Chart 5 Real Estate Transaction Volume and Real Estate Lending Attitude DI JPY tn transaction volume (past 12 month, LHS) real esetate lending attitude DI (6 months prior, RHS) Source: Urban Research Institute, Bank of Japan, RREEF Real Estate Research Data as of January P age

6 The average yield spread the difference between the average cap rate of all reported commercial real estate transactions and government bond yields remained consistently above 400 basis points in Japan throughout This reflects the weak leasing market, and is still one of the widest among the major global markets. However, cap rate recovery has become evident in high quality assets, and favourable lending attitudes have narrowed the scope for opportunistic deals involving distressed assets, especially in Tokyo. Chart 6 Average Yield Spread for All Transactions in Selected Countries bps 550 United Kingdom Hong Kong Australia United States Japan Tokyo Grade A Source: Real Capital Analytics, Bloomberg, RREEF Real Estate Research Data as of January 2012 Notes: Past performance is not indicative of future results 6 P age

7 Chart 7 shows major commercial real estate transactions either completed or announced since the beginning of the fourth quarter, The deal flow in the office sector continued to be limited in the period. J-REITs were especially less active than usual (see Section 4 - The J- REIT s next 10 years). The acquisition of JLL s logistics portfolio was completed by GL Properties and an Asian sovereign fund. The asset size of the deal was JPY123 billion, or about $1.5 billion, and it became Japan s largest real estate transaction of Chart 7 Major Real Estate Transactions in Japan in the Fourth Quarter* of 2011 Month Type Asset Price (JPY billion) Unit pice (JPY m /sqm) JPY1 billion = US$12 million Source: Real Capital Analytics, Nikkei Real Estate Market, RREEF Real Estate Research Data as of January 2012 Note: est.: estimated, bk: book value * includes some transactions from earlier quarters that were not previously reported Acquisitions by foreign managers/investors are highlighted in yellow. Acquisitions by J-REITs are highlighted in blue. This table is prepared solely for information purposes and not intended to recommend or endorse any specific company's shares or other products. Cap rates Prefecture Acquired by Jul-11 retail 3 retail bldgs Tokyo Elliot USA Investor origin Oct-11 land Redevelopment site in Roppongi b.k Tokyo Sumitomo Realty & Develop't Japan Nov-11 office Akasaka Park Bldg % Tokyo Japan Real Estate (REIT) Japan Nov-11 office IBJ Leasing HQ b.k Tokyo SPC n.a. Nov-11 office hotel 7 office bldgs and 1 hotel % Tokyo Premier (REIT) Japan Dec-11 residential 8 residential bldgs % Tokyo, Osaka, Sapporo Nomura Real Estate Residential (REIT) Dec-11 retail g.u. Shinsaibashi Osaka German pension fund Germany Dec-11 logistics LaSalle Investment's 15 logistic centers Dec-11 office 8 office bldgs % Dec-11 merger of REITs Merger of Japan Hotel and Resorts with Nippone Hotel Fund all over Japan GLP, Asian sovereign fund Tokyo, other Kenedix Realty (REIT) regional cities Japan RECAP Group (AM of Nippon Hotel Fund) Japan Singapore, China Singapore Dec-11 office Ebisu Garden Place (15%) Tokyo Sapporo Holdings Japan Dec-11 residential Citadines Shinjuku (60%) Tokyo Ascott Residential Singapore Dec-11 residential Flour Mansion Jyosei % Kumamoto Saizen REIT Singapore * unit price calculated by estimate project costs for building completion 7 P age

8 Tokyo s volume of commercial real estate transactions in the first three quarters of 2011 was about US$16 billion, the same level as in 2010 according to Real Capital Analytics. Tokyo was ranked third in the period among major global markets and first in the Asia Pacific region. Chart 8 Commercial Real Estate Transaction Volumes by City in Q1-Q London New York City Tokyo Paris Washington DC Hong Kong Los Angeles SanFrancisco Singapore Seoul Chicago Shanghai Toronto Berlin Dallas Boston Hamburg Houston South Florida Atlanta Office Retail Apartment Industrial Hotel Source: Real Capital Analytics, RREEF Real Estate Research Data as of January 2012 Note: Commercial real estate transactions exclude non-income producing assets, such as development site transactions Based on the monthly indicator tracked by Investment Property Databank (IPD), the average annual total return for direct real estate investment on an unlevered basis in Japan has continued to improve since mid Returns rose to 3.4 percent p.a. as of September 2011 (the latest preliminary number available). Office returns have been recovering, but still lag behind the retail and the residential sectors. ($bn) Chart 9 Return of Unlevered Direct Real Estate Investment in Japan 15% 10% Total Return Capital Growth Income Return (all asset classes) preliminary 15% 10% Office Retail Residential (total return) preliminary 5% 5% 0% 0% -5% -5% -10% -15% Annually Quarterly -10% -15% Annually Quarterly Source: IPD Japan Monthly Indicator, RREEF Real Estate Research Data as of January 2012 Note: There is a time lag because of raw data being collected through semi-annual reports Past performance is not indicative of future results 8 P age

9 3. Market Fundamentals Office The overall office vacancy rate in Central Tokyo 1 stood at 9.0 percent in December 2011, an increase of 0.4 points from the previous quarter. The recovery trend in the vacancy rate seems to be over, and this is in line with our previous expectations 2. Overall demand is still weak, especially for older, lower quality and/or smaller spaces. A supply increase is expected in Tokyo in 2012 so the vacancy rate is expected to hover at the current level. Chart 10 Office Vacancy Rate in Central Tokyo (5 wards) Vacancy rate for all buildings (LHS, %) Vacancy rate for new buildings (RHS, %) Forecast 20 % 40 % Vacancy rate for all buildings 15 % 10 % 5 % 30 % 20 % 10 % newly developed buildings 0 % 0 % Source: Miki Shoji, RREEF Real Estate Research Data as of January 2012 Among office types, relatively strong and resilient demand for high quality, large-sized spaces is evident. The vacancy rate is already close to 5 percent for larger-sized assets. In contrast, the recovery is lagging in smaller-sized buildings. 1 Central Tokyo is defined as the central five wards of Chiyoda, Chuo, Minato, Shinjuku, and Shibuya. 2 We anticipated any vacancy rate recovery in 2011 will be short and temporary if at all in Japan Quarterly Q (page 9), published in July P age

10 Chart 11 Office Vacancy Rate in Central Tokyo by Building Floor Plate Size floor plate : 165 sqm - 330sqm floor plate : 330 sqm sqm floor plate > 660 sqm 12% 8% 4% 0% Sources: Sanko Estate, RREEF Real Estate Research Data as of January 2012 Office rental growth rates correlate inversely to the vacancy rate. Historically in Tokyo, office rents start to increase when the vacancy rate falls below 5 percent. Since vacancy rates for buildings with floor plates with 660 square meters or over is already close to 5 percent in Tokyo, the rents for these spaces are expected to show recovery signs in Chart 12 Vacancy Rate and Rent Growth in Central Tokyo for Floor Plate over 660 sqm 8% Actual Rent Growth (QoQ, 3Q rolling avg.) Vacancy Rate (RHS) 1% 4% 3% 0% 5% -4% 7% -8% 9% -12% 11% Sources: Sanko Estate, NLI Research Institute, RREEF Real Estate Research Data as of January Page

11 In accordance with the vacancy rate recovery for larger sized assets, prime rents in Tokyo show signs of bottoming out as shown on Chart 13. Rents are still falling, however, for other mid to small sized buildings, although the speed of rental decline is slowing down. A further marginal decline is expected to persist in average quality buildings in Tokyo through 2012, due to supply increase expected ahead. Chart 13 Office Asking Rent in Central Tokyo by Building Floor Plate Size yen/tsubo/mon $US/sqf/year 50,000 40,000 Prime Buildings in CBD floor plate > 660 sqm 182 RREEF Forecast ,000 20,000 floor plate > 165 sqm Newly built buildings floor plate > 330 sqm Benchmark floor plate > 330 sqm ,000 floor plate < 165 sqm Sources: Miki Shoji, Sanko Estate, RREEF Real Estate Research Data as of January 2012 F = forecast. Please refer to Important Notes (page 22) Office vacancy rates peaked in most major regional cities in Japan by early In Sapporo, Fukuoka, and Nagoya, this was mainly due to limited new supply rather than strong demand. In Osaka, the recovery is expected to be mild and short due to a supply of large new office buildings within two years. Chart 14 Office Vacancy Rates in Major Cities in Japan (all grades) % 16 Sapporo Fukuoka Nagoya Osaka Tokyo Annually Quarterly Source: Miki Shoji, RREEF Real Estate Research Data as of January Page

12 Retail The average asking retail rents for major high streets in Tokyo softened in the most recent quarter. Rents declined by low single digit rates in the Shinjuku, Omotesando, and Shibuya districts and declined by a steeper 8 percent in Ginza. This coincided with the yen s continued strengthening against other major currencies and an associated decline of foreign tourists into the country. The weak momentum is expected to persist in the near term before a recovery takes hold. Chart 15 Average High Street Retail Asking Rents in Tokyo and Osaka JPY/tsubo/mon 50,000 Ginza Omotesando Shinjuku Shibuya Shinsaibashi Office (Central Tokyo) 40,000 30,000 20,000 10,000 Source: RREEF Real Estate Research based on data from Attractors Lab and Miki Shoji Data as of January 2012 Retail sales in the properties with large-scale formats stabilized in October and November Sales at shopping centres and department stores (on an existing store basis) declined only by 1 percent over the same period of the previous year. While the exchange rate currently favours imported brand products, general demand for other products and services is expected to remain relatively weak in the short to medium term, given the eroded level of consumer confidence. Chart 16 Retail Sales Growth in Japan (year on year) and CFI 5% 0% -5% -10% -15% Shopping Centre Department Store Chain Store CFI (RHS) (for existing stores for all categories) 120 Credit Crisis the Earthquake 40 Nikkei RIM's Consumption Forecasting Indicator (CFI) Source: JCSC, JDSA, JCSA, Nikkei RIM, RREEF Real Estate Research, Data as of January Page

13 Residential The new built-for-sale condominium (condo) contract rate 3 (red line in Chart 17) stood near 77 percent in December 2011, still holding well above the threshold 70 percent level which is associated with healthy market conditions. The average sales price per unit, however, was JPY 45.3 million, the lowest level since Q reflecting gradual demand softening. Chart 17 Newly-built Condominium Unit Price and Contract Rate in Greater Tokyo price (JPYm/unit) Avg. unit price (LHS) Contract rate (RHS) % Source: REEI, RREEF Real Estate Research Data as of January 2012 The indices in the sales and rental residential markets show similar patterns. The capital value index of average existing condos (i.e., the re-sale price index) declined 2.4% from August 2011, while the average residential rent index showed a recovery sign for the first time in three years. 3 The contract rate is the ratio of units contracted (sold) to the number of units delivered for sale. 13 Page

14 Chart 18 Average Residential Capital Value and Rent Index in Tokyo Capital Value Index (Residential, Tokyo) Rent Index (Residential, Tokyo) (Jan 2000 =100) Source: IPD-RECRUIT Residential Index, RREEF Real Estate Research Data as of January 2012 The high-end residential market is more vulnerable to the economic cycle than the average mass market. It is closely correlated with the office leasing market, since both are strongly affected by business conditions of the corporate sector rather than households. The vacancy rate of high-end apartments declined to 9.6% in the fourth quarter The average high-end residential rents started to pick up in the fourth quarter 2010, just before the earthquake in March 2011, but fell again in the first quarter 2011 and afterwards. Rents slid another 0.9% in the fourth quarter 2011 but the speed of decline has slowed. Chart 19 High-end Residential Rent and Vacancy in Tokyo Yen/tsubo/month office rent high end residential rent % 25,000 office vacancy high end residential vacancy 15 Annually Quarterly 22, , ,000 13, , ,000 0 es Source: Ken Corporation, Miki Shoji, RREEF Real Estate Research Data as of January Page

15 Industrial Vacancy rates of industrial assets are heavily influenced by the volume of new supply. When supply surged in 2007 and 2008, vacancies shot up as well, but because of limited supply in the last two and half years, vacancy rates have recovered. They were at a healthy level near 5 percent in both Greater Tokyo and Greater Osaka in the third quarter of 2011, showing resilient demand in the current economy. Chart 20 Vacancy Rate of Multi-tenant Logistics Properties in Japan 20% Greater Tokyo Greater Osaka 15% 10% 5% 0% Source: Ichigo Real Estate Service, RREEF Real Estate Research Data as of January 2012 Despite the improving trend in vacancy rates, rents for logistics assets are holding steady in Greater Tokyo and Greater Osaka. Logistics rents increased a marginal 0.5 percent in Greater Tokyo in the third quarter 2011 (quarter on quarter basis) while rents in Greater Osaka remained unchanged. The outlook for logistic rents will remain relatively flat in the near term, as Japan s logistics firms face cost cutting pressure due to high energy prices. Chart 21 Logistics Rent in Greater Tokyo and Greater Osaka JPY/month/tsubo* 5,000 Greater Tokyo Greater Osaka 4,000 3,000 2,000 1,000 0 Source: Ichigo Real Estate Service, RREEF Real Estate Research Data as of January 2012 * The tsubo is a traditional measure of floor area in Japan. It is equivalent to 3.3 square metres (35.6 square feet) 15 Page

16 4. Research Topic The J-REIT s next 10 years More than ten years have passed since the first two J-REITs, or Japanese real estate investment trusts, were listed on the Tokyo Stock Exchange in September In their first decade, J-REITs have increased in size and importance in the local market and have made Japan one of the main global REIT markets. The strict disclosure requirements imposed on J- REITs have significantly improved Japan s market transparency 4. Currently there are 34 J- REITs listed locally in Japan, and their acquisitions account for 30% of the country s commercial real estate transactions each year. In this chapter we highlight the important role the J-REIT has played in the market in the last ten years and review the challenges the J-REIT faces in next 10 years. Chart 22 shows the asset size and the market capitalization of the J-REIT market. The aggregate asset size has grown steadily and exceeded JPY 8 trillion (US$100 billion) in 2011, but the market cap has struggled at around JPY 3 trillion in the last couple of years even after the Bank of Japan started to purchase J-REIT stocks in December 2010 in order to stimulate the underlying real estate market. J-REITs traded below net asset value (NAV) throughout 2011 and the current discount is over 20% to NAV. Chart 22 Market Cap, Real Estate Assets, and NAV Premium of J-REITs JPY tn 9 Total asset size held (LHS) Total market Cap (LHS) NAV premium/discount (RHS) 120% 6 Total asset size held (LHS) 80% 3 40% 0 Total market Cap (LHS) 0% -3-40% Source: ARES, Bloomberg, RREEF Real Estate Research Data as of January 2012 It is widely assumed that REIT indices in most countries have a tendency to be correlated closely to each other. The J-REIT stock index was indeed strongly correlated with US and other major REIT indices until 2009 when the market plummeted. Since then, the J-REIT index has struggled to recover even as the US and Singaporean REIT indices doubled their values in two years. J-REIT performance can be blamed in part on the expected lag in recovery of the underlying real estate market in Japan, but also on structural issues inherent to J-REIT s (more on this below). 4 For example, the calculation of real estate total returns became available for the first time in the country thanks to the regulatory disclosure of appraisal values by J-REITs (see again Chart 9). 16 Page

17 Chart 23 REIT Indexes of Selected Major Markets J-REIT US-REIT A-REIT (Australia) S-REIT (Singapore) (Mar-09 = 100) Source: Bloomberg, RREEF Real Estate Research Data as of January 2012 Notes: Tokyo Stock Exchange REIT Index (J-REIT), FTSE NAREIT All Equity REITS Index (US-REIT), S&P/ASX 200 A-REIT Index (A-REIT), FTSE ST REIT Index (S-REIT) Past performance is not indicative of future results Stagnant share prices have effectively curtailed new initial public offerings (IPOs) of J-REITs in the four years since 2009, but equity finance (public offering and third party allotment) of existing J-REITs has been active at least through the third quarter This became more difficult in the fourth quarter 2011 as the price-to-book ratio of most J-REITs fell below 1.0x due to further share price declines. One of the major J-REITs planned public offering is currently pending because of the weak market. Chart 24 Capital Raising and Real Estate Transactions of REITs in Japan JPY tn Bond Public Offering 3rd Party Allotment IPO Recent Equity Offerings (JPY bn) J-REIT Date Amount 1.0 acquisition volume by J-REITs Nippon Building Fund Jan Japan Excellent Jan Nippon Accommodation Fund Mar Fukuoka REIT Mar Industrial & Infrastructure Fund Mar Nippon Hotel Fund Apr ORIX JREIT May United Urban Jun Kenedix Realty Jul Invincible Jul Japan Retail Fund Sep Daiwa House Residential Oct Premier Nov Nomur Real Estate Residential Dec Japan Real Estate pending 54.0 Source: ARES, RREEF Real Estate Research Data as of January 2012 Note: This table is prepared solely for information purposes and not intended to recommend or endorse any specific company's shares or other products. 17 Page

18 Chart 25 shows the share of the acquisition volume by J-REITs out of all the transactions in Japan. The J-REIT s transaction share fell below 10% amid the credit crisis of 2009, but it quickly recovered to account for about 30% since then. This ratio implies that the J-REIT plays an important role by actively purchasing assets throughout the cycle (with the only exception being the period of the credit crunch in 2009). The commercial real estate transaction volume in Tokyo ranked second globally in 2010 and third in Q1-Q (see again Chart 8), and this level of activity was partly supported by active J-REIT investments. Chart 25 Real Estate Transactions in Japan 4 JPY tn 3 2 acquisition by others (LHS) acquisition by J-REITs (LHS) disposition by J-REITs (LHS) Series3 60% 31% 34% 56% 42% J-REIT share of all transactions (RHS) 38% 45% 30% 25% 1 11% 15% 0 0% -1-15% Source: ARES, Urban Research Institute, RREEF Real Estate Research Data as of January 2012 Japan has the second largest real estate stock in the world after the US, about JPY 180 trillion (income producing assets), but the aggregate asset size of J-REITs accounts for only 4.5% of the stock, or JPY 8 trillion. The J-REIT s aggregate asset size is smaller than either Australia or France (in US dollars). This is believed to be because the majority of the assets are still held by developers in Japan, rather than by J-REITs. 2,300 tn Chart 26 Composition of Japan s real estate stock Real estate stock in Japan including public sector and individuals 490 tn Corporate sector 180 tn Income producing assets (developers, etc.) 24 tn Funds 8tn ($103bn) J-REITs Size of major REIT markets (asset size in USD billions) US 500 Australia 139 France 135 Japan 103 UK 52 Singapore 44 Source: ARES, EPRA, MITI, RREEF Real Estate Research Data as of January Page

19 J-REITs use an external management structure in which the services of third-party asset managers are retained. This is similar to the Australian model 5 but differs from the internal management model used by US REITs. Most J-REITs are managed by large developer groups and these developers are called sponsors of the J-REITs. A unique feature of the market in Japan is that there are more than 100 listed developers and real estate companies and also 34 J-REITs listed in the stock market at the same time, and most of the REITs are sponsored by developers. J-REITs have strong ties with their sponsors not only in asset management, but also asset pipelines and human resources. The unique sponsor structure worked well to grow the REIT market in Japan in its early period. It is debatable, however, whether this unique structure has in fact become a bottleneck for further growth of the J-REIT market since there is no clear segregation of decision-making authority between J-REITs and their sponsoring developers. For instance, sponsoring developers tend to retain all of the trophy buildings in their portfolios, with no prime assets held by J-REITs 6. Even though J-REITs are very transparent vehicles, some large institutional investors are hesitant to invest in J-REIT stocks since the size of each REIT is too small and the liquidity of the share is therefore limited. Chart 27 shows the market capitalization of selected developers and the J-REIT(s) they sponsor. Chart 27 Market Cap of Major Developers and their Sponsoring J-REITs Developer's Market Cap REIT's Market Cap Mitsubishi Estate and sponsoring REIT Mitsui Fudosan and sponsoring REITs Sumitomo Realty & Development Nomura Real Estate and sponsoring REITs Mori Building and sponsoring REIT Mori Trust and sponsoring REIT Tokyo Tatemono and sponsoring REIT NTT Urban Development and sponsoring REIT ,200 1,600 2,000 JPY bn Source: Bloomberg, RREEF Real Estate Research Data as of January 2012 In its first decade, the J-REIT has carved out an important role in the Japanese real estate market and has become one of the major global REIT markets. Among the J-REIT s successes, its regulatory structure has brought significant improvement to the transparency of Japan s domestic real estate market. In addition, J-REITs have added stability to the market by consistently purchasing assets throughout the property cycle. As the J-REIT index enters its 11 th year, it finds itself still struggling with recovery even as other countries REIT indices have bounced back. In the decade ahead, the J-REIT market faces a major challenge which constrains its further development: An external management model worked well during the J-REIT s early period of development but this structure now limits further growth since there is no clear separation of decision-making authority between developers (sponsors) and J-REITs. 5 Some of the Australian REITs implement a stapled structure, which effectively changes the REIT to an internal management structure for investor purposes. 6 The largest asset (in appraisal values) held by J-REITs is worth JPY 111 billion in 2011, while about 50 buildings in Tokyo are worth more than that according to RREEF research. 19 Page

20 For J-REITs to become larger, they require more independence from their sponsors. Such a development would contribute to the ongoing and evolving institutionalization of the Japanese real estate market 7. ARES, the Japanese industry body, has set a target to triple the J-REIT market cap to JPY 10 trillion in the mid to long term, but these issues of management structure will need to be resolved to achieve the goal 8. 7 This publication has pointed out in the past that the level of institutionalization of the Japanese real estate market is still limited. For example, the low real estate allocations by institutions is discussed in a previous edition. See Japan Real Estate Second Quarter 2010 published in July Other changes of the rules, including new implementation of UPREIT and stock buyback, also need to be considered. 20 Page

21 Past Editions Vol Year Publication Research Topic 1 Second Quarter Jun 08 Making sense of the rental market in Japan Third Quarter Sep 08 Impact of the credit crunch 3 Fourth Quarter Dec 08 Revitalisation of ailing J-REITs 4 First Quarter Mar 09 Tokyo office market in its global context 5 Second Quarter Jul 09 Japan residential market Third Quarter Oct 09 History repeats itself? A comparison of the Year 2003 Problem with Fourth Quarter Jan 10 Introducing unit pricing analysis in Japan 8 First Quarter Apr 10 Portfolio optimisation analysis in Japan 9 Second Quarter Jul 10 Japan s capital market in a global context Third Quarter Oct Fourth Quarter Jan 11 Cross-border investment into and out of Japan 12 First Quarter Apr 11 The Great Tohoku Earthquake and its impact on the Japanese real estate market Second Quarter July 11 Adapting Japan s land price index for real estate analysis 14 Third Quarter Oct First Quarter Jan 12 The J-REIT s next 10 years 21 Page

22 5. Important Notes Copyright Deutsche Bank AG, Frankfurt am Main. All rights reserved. RREEF Real Estate, part of RREEF Alternatives, the alternative investments business of Deutsche Asset Management, the asset management division of Deutsche Bank AG offers a range of real estate investment strategies, including: core and value-added and opportunistic real estate, real estate debt, and real estate and infrastructure securities. In the United States RREEF Real Estate relates to the asset management activities of RREEF America L.L.C., and Deutsche Investment Management Americas Inc.; in Germany: RREEF Investment GmbH, RREEF Management GmbH and RREEF Spezial Invest GmbH; in Australia: Deutsche Asset Management (Australia) Limited (ABN ) an Australian financial services license holder; in Japan: Deutsche Securities Inc. (For DSI, financial advisory (not investment advisory) and distribution services only); in Hong Kong: Deutsche Bank Aktiengesellschaft, Hong Kong Branch (for RREEF Real Estate s direct real estate business), and Deutsche Asset Management (Hong Kong) Limited (for RREEF Real Estate s real estate securities business); in Singapore: Deutsche Asset Management (Asia) Limited (Company Reg. No N); in the United Kingdom: Deutsche Alternative Asset Management (UK) Limited, Deutsche Alternative Asset Management (Global) Limited and Deutsche Asset Management (UK) Limited; in Italy: RREEF Fondimmobiliari SGR S.p.A.; and in Denmark, Finland, Norway and Sweden: Deutsche Alternative Asset Management (UK) Limited and Deutsche Alternative Asset Management (Global) Limited; in addition to other regional entities in the Deutsche Bank Group. Key RREEF Real Estate research personnel are voting members of various RREEF Real Estate investment committees. Members of the investment committees vote with respect to underlying investments and/or transactions and certain other matters subjected to a vote of such investment committee. Additionally, research personnel receive, and may in the future receive incentive compensation based on the performance of a certain investment accounts and investment vehicles managed by RREEF Real Estate and its affiliates. This material was prepared without regard to the specific objectives, financial situation or needs of any particular person who may receive it. It is intended for informational purposes only. It does not constitute investment advice, a recommendation, an offer, solicitation, the basis for any contract to purchase or sell any security or other instrument, or for Deutsche Bank AG or its affiliates to enter into or arrange any type of transaction as a consequence of any information contained herein. Neither Deutsche Bank AG nor any of its affiliates gives any warranty as to the accuracy, reliability or completeness of information which is contained in this document. Except insofar as liability under any statute cannot be excluded, no member of the Deutsche Bank Group, the Issuer or any officer, employee or associate of them accepts any liability (whether arising in contract, in tort or negligence or otherwise) for any error or omission in this document or for any resulting loss or damage whether direct, indirect, consequential or otherwise suffered by the recipient of this document or any other person. The views expressed in this document constitute Deutsche Bank AG or its affiliates judgment at the time of issue and are subject to change. This document is only for professional investors. This document was prepared without regard to the specific objectives, financial situation or needs of any particular person who may receive it. No further distribution is allowed without prior written consent of the Issuer. An investment in real estate involves a high degree of risk, including possible loss of principal amount invested, and is suitable only for sophisticated investors who can bear such losses. The value of shares/ units and their derived income may fall or rise. Any forecasts provided herein are based upon RREEF Real Estate s opinion of the market at this date and are subject to change dependent on the market. Past performance or any prediction, projection or forecast on the economy or markets is not indicative of future performance. The forecasts provided are based upon our opinion of the market as at this date and are subject to change, dependent on future changes in the market. Any prediction, projection or forecast on the economy, stock market, bond market or the economic trends of the markets is not necessarily indicative of the future or likely performance. Certain RREEF Real Estate investment strategies may not be available in every region or country for legal or other reasons, and information about these strategies is not directed to those investors residing or located in any such region or country. 22 Page

23 For Investors in the United Kingdom: Issued and approved in the United Kingdom by Deutsche Alternative Asset Management (UK) Limited, Deutsche Alternative Asset Management (Global) Limited, and Deutsche Asset Management (UK) Limited of One Appold Street, London, EC2A 2UU. Authorised and regulated by the Financial Services Authority. This document is a non-retail communication within the meaning of the FSA s Rules and is directed only at persons satisfying the FSA s client categorisation criteria for an eligible counterparty or a professional client. This document is not intended for and should not be relied upon by a retail client. When making an investment decision, potential investors should rely solely on the final documentation relating to the investment or service and not the information contained herein. The investments or services mentioned herein may not be appropriate for all investors and before entering into any transaction you should take steps to ensure that you fully understand the transaction and have made an independent assessment of the appropriateness of the transaction in the light of your own objectives and circumstances, including the possible risks and benefits of entering into such transaction. You should also consider seeking advice from your own advisers in making this assessment. If you decide to enter into a transaction with us you do so in reliance on your own judgment. For Investors in Australia: In Australia, Issued by Deutsche Asset Management (Australia) Limited (ABN ), holder of an Australian Financial Services License. This information is only available to persons who are professional, sophisticated, or wholesale investors under the Corporations Act. An investment with Deutsche Asset Management is not a deposit with or any other type of liability of Deutsche Bank AG ARBN , Deutsche Asset Management (Australia) Limited or any other member of the Deutsche Bank AG Group. The capital value of and performance of an investment with Deutsche Asset Management is not guaranteed by Deutsche Bank AG, Deutsche Asset Management (Australia) Limited or any other member of the Deutsche Bank Group. Deutsche Asset Management (Australia) Limited is not an Authorised Deposit taking institution under the Banking Act 1959 nor regulated by the Australian Prudential Authority. Investments are subject to investment risk, including possible delays in repayment and loss of income and principal invested. For Investors in Hong Kong: Interests in the funds may not be offered or sold in Hong Kong or other jurisdictions, by means of an advertisement, invitation or any other document, other than to Professional Investors or in circumstances that do not constitute an offering to the public. This document is therefore for the use of Professional Investors only and as such, is not approved under the Securities and Futures Ordinance (SFO) or the Companies Ordinance and shall not be distributed to non-professional Investors in Hong Kong or to anyone in any other jurisdiction in which such distribution is not authorised. For the purposes of this statement, a Professional investor is defined under the SFO. I Page