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A Sleeping Giant

Raymond Fazzi
Financial Advisor Magazine

January 2010
 

For socially responsible investors who have been trying to round out their portfolios with allocations in REITs or other real estate investments, the landscape may seem awfully barren right now.

As hard as investors may look, for example, they are not going to find any US REITs that specifically label themselves as “green” or “socially responsible”. Even traditional mutual funds have little to offer.
 
“With respect to REITs, there are ways to get at it, but it is not as direct,” says Gary Pivo, a professor at Arizona State University who has done extensive studies on the socially responsible real estate market. “There is no list out there of SRI REITs that has been certified by anybody”.

Still, observers say green real estate development is on the rise in both the private and public sectors. The buzz of activity, in fact, has some SRI advocates hopeful that the green real estate sector is poised for robust growth once the broad real estate market picks up.

A growing number of states and federal agencies, for example, have mandated that public buildings incorporate designs and technologies that make the facilities environmentally sustainable.

Even more telling, experts say, is the way private real estate companies – encouraged by studies that indicate energy-efficient buildings have lower costs and higher income – have hopped onto the green bandwagon.

Although the connection between social responsibility and profits may be less obvious for some investments, green building technologies reduce costs and help improve the bottom line, green advocates say. A high-profile project that symbolises green building advantages is underway at the Empire State Building, which is getting a $20 million makeover, designed to reduce carbon emissions and energy costs by $4.4 million per year.

The development of green building standards has helped channel the activity. The US Green Building Council is a non-profit group that maintains the “Leadership in Energy and Environmental Design” (LEED), a green building rating system that has been accepted as the industry’s standard.

According to the council, about 43 states, 190 municipalities and 12 federal agencies or departments have policies that incorporate LEED certification. Green building designs reduce operating costs by an average of 8% to 9%. Studies also indicate that green buildings have better valuation and occupancy rates.

The cost-effectiveness of green building technologies has given some people a reason to hope that the real estate sector eventually will become an SRI leader. “The tangibility of the impact is very transparent,” says David Wood, director of the Boston College Institute for Responsible Investment. “We think that will drive the market towards this type of investing.”

A Broad Collapse

A discussion of green real estate investment would not be complete without turning to the elephant in the room: the collapse of the US residential and commercial US real estate markets.

Before the crisis, the green real estate sector was poised for growth, according to observers. “If we turn the clock back even two years, the tide was really building,” says Steven Schueth, president of First Affirmative Financial Network LLC, an investment advisor in Colorado Springs, Colorado, that specialises in socially responsible investing. “That big wave was really building and green real estate was hot. Everyone was talking about it.”

As with the other parts of the real estate market, the collapse has dried up credit and put a virtual freeze on new green construction, at least in the private sector. Most capital expenditures are currently being devoted to retrofitting old buildings with green technologies, such as efficient sewage and storm drainage, heating and water systems.

Green REITs have not sprouted from this activity because it has been centred on either public or owner-occupied buildings, according to Pivo. He feels it could be up to five years before the market picks up enough to provide ample investment options in the SRI niche.

“I do think that when the real estate cycle is back into a growth phase that this certainly will be a hot topic,” he says. “I do eventually expect REITs to be branding themselves explicitly as SRI.”

Rising investment in green construction and renovation leading up to the real estate market collapse supports this view. Between 2000 and 2004, for example, the estimated value of US green construction started to rise from $792 million to $4.51 billion, according to the US Green Building Council. The council projects that the total value could reach $60 billion in 2010.

Overall, the green market represented between 10% and 12% of non-residential construction in 2008, up from 2% in 2005, according to the council. The share is projected to rise to between 20% and 25% by 2013. One large company with a big green footprint is Simon Property Group Incorporated, the largest public real estate company in the United States and considered one of the leaders in implementing energy-sustaining practices.

More private equity investment in sustainable energy technologies should further benefit real estate down the road. “I would say on the private investment side, we’re seeing more emphasis than I have ever seen on sustainable investments,” says Mark Edlen, managing principal of Gerdling Edlen, a Portland, Oregon-based green real estate development company that has built or renovated more than 40 buildings over the last 15 years.

Existing Opportunities

While investors may be frustrated if they are looking for a pure SRI real estate fund, opportunities exist if they are willing to settle for funds that incorporate some socially responsible or green practices, market watchers say.

“Broadly, what we are finding is that there is not a whole lot of pure green REITs,” says Craig Metrick, head of the responsible investing group of Mercer Investment Consulting in New York City. “But what we do see is some established REITs making commitments to green their portfolios over time.”

One place investors could start, according to Pivo, are real estate funds and trusts that are included in the components of the Dow Jones World Sustainability Index. NAREIT, the National Association of Real Estate Investment Trusts, also recognises companies that have incorporated green technologies and practices into their businesses as part of its “Leaders in the Light” program.

The US Green Building Council and the US Environmental Protection Agency also recognise real estate companies that are active in promoting green real estate development, he says.

“All of these are sort of indicators of REITs that are going in the right direction,” Pivo says.

The Responsible Property Investing Centre also maintains a list of real estate companies, including REITs that are active in the development of energy-sustainable buildings at responsibleproperty.net, according to Wood.

Aside from hunting for investments through these and other resources, Wood advises socially responsible investors to be patient when it comes to pursuing real estate opportunities.

“Everyone is digging out from the rubble,” Wood says. “Even the optimists do not see things happening before 2012.”

 

 

This article first appeared in Financial Advisor Magazine (FA Green, December 2009 issue). For more related articles, please go to www.fa-mag.com.

 

 

 

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