REITs as an investment for German insurance companies

The subject of discussion is a largely practical one. Based on the asset allocation requirements of German insurers the question is raised why the share of REITs in their portfolios is limited to less than one percent of their real estate investment volume. Five key areas are being analysed and conclusions derived for potential steps ahead. Background: Real estate investments have a long tradition in the German insurance industry. Their attractiveness lies in the reliably stable payment flows they generate and in the security that they offer against inflation and extreme risks such as currency reforms. Over recent years, insurance companies have been increasing their real estate activities. REITs offer an efficient and diversified investment way to enter the market, and they have advantages especially for long-term investors. But despite this, they play almost no role whatsoever in the real estate investment activities of German insurers, accounting for less than one percent of their investments in the segment. Analyses: We have analysed REIT investments in the context of five requirements that are critical in German insurance companies’ real estate allocation decisions. These requirements comprise 1/ Transparency of value drivers, 2/ Quality of the portfolio, 3/ Long-term value and cash-flow stability, 4/ Management alignment and corporate governance, and 5/ Tax and regulatory efficiency. The requirements are described in some detail and the suitability of REITs to match them is evaluated on the basis of existing academic research as well as industry information. Results: We find that REITs may indeed provide an attractive investment option for German insurance companies. However, to grow their share in insurers’ portfolios, some further steps will be necessary. First, REITs interested in expanding their investor base both need to adhere to above mentioned requirements and also to make it highly transparent to their investors that they do. Second, insurers need to find ways to consistently apply an NAV-based approach to the valuation and accounting of REITs, or to identify ways to consummate the higher level of volatility compared to direct real estate. Third, the existing regulatory framework hinders German insurance companies from investing more heavily in REITs, though some more than others. Major issues result from solvency and insurance regulation. It will take the combined effort of all industry participants to overcome these.