Over the past five years the Spanish real-estate market has exploded amid a fertile construction sector, historically low interest rates and record investment from within the country and abroad.

Lately, property companies have embarked on a slew of takeovers, initial public offerings and foreign acquisitions. Some observers attribute the activity to a saturated Spanish market, while others say companies want to bulk up and spread risk ahead of a slowdown.

The trend mirrors what happened in the construction sector a few years ago, when there was consolidation in anticipation of opportunities in new markets in Europe that would require size and cash. The construction groups began to look for ways to diversify into the infrastructure and concessions sectors - Ferrovial's £11bn acquisition of BAA, the UK airports operator, is among the most recent examples.

The difference in the real- estate sector, however, is that the smaller companies are becoming European players. Inmocaral, a non-entity a few years ago, recently acquired Colonial, Spain's second-largest property group and the owner of a large portfolio of fixed assets, for €3.7bn. More recently, unlisted real-estate company Martinsa acquired a 54.6 per cent stake of listed property group Fadesa with the aim of launching a full bid. The offer price, a 21-per cent premium over Fadesa's share price at the time, values the company at about €4bn.

"These companies need listed vehicles to give them more visibility," according to one real-estate analyst in Madrid. "They pay a premium and then they can insert their assets into the target firm. The market can't go on like it has forever, and these companies need to diversify into sectors that can grow. For example, Martinsa owns a lot of land. With Fadesa, it can develop it."

However, with soaring prices and little room for growth within Spain, real-estate companies have opted for expansion abroad and stock market listings. So far this year, four companies have gone public: Renta Corporación, Parquesol, Astroc Mediterráneo and Riofisa. There were only four IPOs in Spain in the three years prior to 2006.

At the same time, property groups are looking to expand outside Spain and especially into France, where they can enjoy the advantageous Societes d'investissements immobiliers cotees (SIIC) tax status. Paris is also Europe's largest office market and, globally, second to Tokyo.

"There is more money than ever before to invest - and it needs to go somewhere," says Andrés Escarpenter, chief executive of Jones Lang LaSalle in Madrid. "There is now a culture of 'we have to grow'."

Spanish property companies have responded. Metrovacesa, Spain's largest listed real-estate group, said earlier this year that French unit Gecina would invest €4.6bn over the next five years in office and hotel assets, and divest assets worth €3.6bn.

As part of the Colonial deal, Inmocaral will absorb Société Foncière Lyonnaise (SFL). In June, Realia completed the purchase of French builder SICC for a total €586m, its largest foreign investment to date. Construction and real-estate giant Sacyr Vallehermoso listed 10 per cent of its French unit Tesfran on the Paris stock market in September to achieve SIIC status. And Galicia-based Fadesa last year bought 70 per cent of Financière Rive Gauche and pledged to invest €200m in the French property market through 2008.

This year Fadesa also began investing in tourist complexes in Marrakech and Kabila in Morocco, and is considering buying the stake in Financière Rive Gauche that it does not already own. Riofisa recently said it would invest about €600m in three shopping centre projects in Bulgaria and Romania.

"Over the last few months we are seeing a jolt in the sector that we didn't expect," says Ignacio San Martín, an analyst at BBVA, the Spanish bank. "The economy is performing as well as last year, job creation is growing, and immigration is still strong. We think this is going to continue for a few more years before a soft adjustment takes place."

Contrary to expectations that rising interest rates would deter investors, supply and demand has not abated. Residential investment is set to grow 7.6 per cent this year, according to BBVA, with an estimated 800,000 housing starts.

The sector also continues to woo retail investors - at the end of August investment reached €1.6bn, up 27-per cent year-on-year. Spain receives 12 per cent of the total European retail investment, second to Germany.

Some signs of a slowdown are emerging, however. Sales of first homes in Spain fell 8 per cent during the first half of 2006 compared with the same period last year, according to Knight Frank. The cause was mainly high prices - up 170 per cent since 1997 - and interest rate spikes. This year the annual rise in housing prices is moderating to less than 10 per cent after several years in the 14 per cent range. Investments from non-residents are also fading. In the first quarter they amounted to about €1.12bn, a 10.2 per cent decrease compared with the same period in 2005, according to the Bank of Spain. Last year investment from non-Spaniards fell 16.7 per cent year-on-year, while in 2003 the investment rose 17.2 per cent from the year earlier. Analysts have pointed to 2009 as when supply may overshadow demand.

"The level of confidence is the most important factor, even more than interest rates and unemployment," says Mr Escarpenter. "The problem isn't when you're unemployed but when your neighbour is, and then you think, 'that can happen to me'. So you start preparing for hard times. A confidence crisis is the worst thing that can happen."

Source:  Financial Times