Ben Aris in London -

Russian real estate stocks have become the hot property for international portfolio investors over the last year. However, caution is advised, as the post-IPO performances of these stocks are mixed; shares of the companies that have listed recently have either risen by half or fallen well below their IPO price.

There are six listed Russian real estate company of which some, like Open Investments, have earned investors excellent returns, while others, like AFI Development, have proven to be dogs, despite the country's strong economic growth and soaring property prices.

"Over the past year, we have seen an unprecedented boom in the regional property markets. Prime office prices in Moscow increased 38%, sale values for warehouses jumped 33% and retail premises climbed a hefty 56%, by our estimates," say analysts at Renaissance Capital. "Residential properties, in their turn, have beaten even the most aggressive forecasts, with average price increases of 90% in Moscow and 54% across Russia."

Despite the boom, analysts say the party is still only just starting. Office space per capita in Moscow is only about 0.5 square metre (sqm) - one-third that of Prague and Warsaw, one-sixth of London, and one-tenth of Berlin's modern office space.

In the Russian regions the lack of space is even more dramatic when compared to international peers: office space per capita is as low as 0.1 sqm per capita in Kazan and 0.04 sqm per capita in Perm. These imbalances are reflected in vacancy rates for Class-A offices in Moscow hovering at about 1%, and rental rates two-thirds higher than in midtown Manhattan.

There has been a string of real estate IPOs in the last two years, which now account for 2.7% of the RTS' total capitalisation.

The first through the door have reaped the best returns. Eastern Property Holdings was the first dedicated Russia real estate fund available to general investors. It floated on the Swiss exchange in 2004 - actually a reverse takeover of an existing listed entity - debuting with a share price of about $50.

EPH was unlucky with the timing, as Yukos boss Mikhail Khodorkovsky was arrested in the middle of the launch process, which battered the fund's share price. However, EPH has stuck to its guns and ridden the property boom wave since.

The company's two main investment properties are in Moscow: the Berlin House near the Bolshoi Theatre and the office building Petrovsky Fort, the value of which increased by $22.4m year-on-year in April.

EPH's financial investments gained an additional $11.4m, according to the last valuation report, while the company's share price was up 13.8% to $95.4 per share year-on-year in April. Rental income doubled to $10.7m from $5.8m a year earlier and operating cash flow increased from $0.4m to $3.8m.

Hard sell

But bankers say that despite the obvious attractions of the real estate market, it is so new that it's still a hard sell getting international investors interested in these IPOs. They understand Russian oil stocks, but they are not up to speed with the Russian real estate market.

Reinout Koopmans, head of Deutsche Bank's CEEMEA desk in London, who has lead managed several of Russia's real estate IPOs over the last year, says: "With Sistema Hals [real estate IPO], a lot of people looked at this deal, but a few bought. With AFI Development, more people looked and maybe 10% of them bought it. With PIK the ratio went up to 15%. But this remains an incredibly hard sell," referring to the main Russian real estate companies that have floated over the last 18 months.

And investor confidence in the sector has been undermined after AFI Development's IPO in May flopped, which was followed in less than a month by the IPO of PIK.

AFI sold 100m shares in GDR form (one share per one GDR), or 19% of its shareholder capital, to raise $1.4bn, which implies a $7.3bn market capitalization.

"The problem that PIK faced is it had to IPO less than a month after AFI, which had done so badly," says Michael Boardman, managing director of Japanese bank Nomura's Equity Capital markets division. "One of the jobs of the managers was to convince investors that this was a different story and the company would take a more reasonable approach with the pricing of its stock [than AFI did]."

AFI's IPO was a real setback for the whole sector. The stock was initially priced in the range of $13-14, but the price range was revised up on the very last day prior to the IPO due to high demand and ultimately sold at the top of the range. But things went awry on the very first day of trading when the stock immediately fell 8% to $12.80. Since then, the stock has fallen further and came to rest at $8-8.50.

"AFI created an impression of a company that wanted to squeeze the very last penny out of investors," sighs Boardman.

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