- just find this fascinating, that soon you will be able to effectively bet on whether property in new york or in brussels will do better over the next few years. I'd say their second point on liquidity would be the biggest obstacle - the property market takes its time - everything comes in quarters, half years..and while the existence of property derivates might shake the evaluation of real estate to move a bit faster, the stock market is stil going to have some trouble getting enough momentum going for both buyers and sellers. also, property prices (in general) are fairly easy to forcast - they're not dependent on grain harvests in china, for example - so the betting might not be all that exciting. (well unless of course there are a few more megacity bombs...)
Laying the foundations for property derivatives
By Jim Pickard (FT.com)
Published: January 14 2005 02:00 | Last updated: January 14 2005 02:00
The race to create derivatives in the property market began in earnest four months ago. Though there were several attempts during the 1990s to create such products, only last September was the tax treatment changed by government to make them widely attractive.
This was through an ending to the previous law that capital gains tax was payable on profit but losses did not qualify for relief. The Financial Services Authority, the City watchdog, also added impetus by allowing insurance companies to use property derivatives for "efficient portfolio management".
According to some in the property sector, yesterday's contract for difference by Deutsche Bank and Eurohypo, the German specialist real estate bank, sets the UK on the path to being the first country in the world with a fully formed property derivatives market, providing complex hedges against risk.
Estimates of the future size of the UK property derivatives market - made at a recent conference - ran from several billion pounds to as high as £3,000bn.
Other banks are said to be considering similar moves, not only in Britain but also in Sweden and the US. TD Bank, based in Canada, is close to launching such derivatives in the UK, it is understood.
To its advantage, the UK is widely considered to have the most reliable property data, collated by Investment Property Databank, which is being used for the Deutsche Bank and Eurohypo deal and is likely to form the basis for the new market. IPD is an independent research company whose index tracks the return on £102bn of property.
The CFD created by Deutsche Bank and Eurohypo is effectively a bet on whether the property market will outpace the return on cash. The CFD enables both parties to swap their risks without any buildings changing hands.
This removes not only the cost of selling or buying buildings, which can be 7.75 per cent in stamp duty and agents' fees, but also takes place immediately - unlike the three to six months needed for real-life transactions.
In future, property derivative transactions are as likely to be risk swaps between two different sectors. One fund manager may wish to increase his exposure to business parks and decrease its exposure to Midlands shopping centres.
Another may take the exact opposite view.
"Some people will take synthetic exposure to the market rather than buying properties, if these things exist they give the chance to do more tactical trading than you could have done in the past," says Paul McNamara, head of research at Prudential Property Investment Managers.
Eventually, as more banks and companies exchange derivatives, the market could create international swaps - say, between New York offices and Brussels warehouses.
In the long term, some predict, property derivatives could take on the more complicated nature of those in other established derivatives markets such as interest rates, currencies, commodities, energy and equities.
Nevertheless, some in the sector say important questions remain about whether the derivative concept will adapt to the idiosyncracies of the property market.
First, given the lemming-like nature of some property investors, putting money into certain sectors at the same time, would it be possible to find both buyers and sellers at any given time?
Second, would the property derivatives market have enough liquidity, with estates valued on a monthly, quarterly or annual basis? Shares, by contrast, can change price by the second.
In the late 1990s, Barclays issued hundreds of millions of pounds of property index certificates - effectively a bond - which would match the returns of the IPD index. And Abbey has sold £1bn of savings products that are based on the Halifax UK house price index over a given period.
Neither has been widely followed, though some observers counter that these were not pure derivatives, in that money was paid upfront by investors.
A property swaps market may prove more popular.
"Four or five years ago, many people would have questioned whether property derivatives could ever become established," says Mark Daley, a banking partner at Berwin Leighton Paisner, the law firm. "Now the absence of a derivatives market for this asset class has come to be seen as anomalous."