Japan’s Investment in U.K. Soaring : Real estate: The Japanese shift to Europe is in preparation for a unified market in ’92. But the U.S. is expected to remain the No. 1 investment target.

Japanese investment has more than quadrupled in United Kingdom real estate in the past two years and is also accelerating in other European nations as investors seek to position themselves for the community’s unified market in 1992, a new report shows.

In the first comprehensive survey of Japanese investment in Europe, the report by the accounting group Clark Kenneth Leventhal found that major institutional investors, such as life insurance companies, are turning away from the United States and leading the way into Europe.

Europe offers not only a single market with a gross national product rivaling America’s but also potentially higher rates of return, the study found.

“We were extremely surprised by the acceleration in investment,” said Nicholas E. Young, executive director of Clark Kenneth Leventhal, an association of independent accounting firms whose members include Kenneth Leventhal & Co. of Los Angeles. “I would think it would have to be seen as a rather dramatic competition to the U.S.”

But Jack Rodman, managing partner of the Los Angeles office of Kenneth Leventhal & Co., said an informal survey conducted in Tokyo this week suggests that any retreat by Japanese institutional investors from the U.S. market would be more than made up by a “staggering” increase in smaller investors.

The study estimated that cumulative Japanese investment in European real estate reached $6.4 billion last year, which represents just 12% of the investment in the United States. Overall direct investment by the Japanese in Europe was $27.9 billion, or 40% of the U.S. total.

But in the past few years, investment has spiraled rapidly. In the United Kingdom, which has drawn 61% of the investment in Europe, the cumulative totals grew to $4.6 billion in 1989 from $2 billion in 1988 and $1.1 billion in 1987.

In a pattern similar to their early U.S. investment, the Japanese have characteristically purchased “trophy” office buildings in prime London areas through joint ventures with local partners. The study found that office buildings accounted for 87% of the investment and that 90% was in London. Purchases include the old Daily Express building on Fleet Street, Paternoster Square, County Hall, the Post Office site at St. Martin-le-Grand and the River Plate House in Finsbury Circus.

In France, two major deals have driven a surge in investment to $1 billion in 1989 from $260 million in 1988. Kowa Real Estate Investment has purchased the Shell Oil headquarters near the Champs Elysees in a joint venture and agreed to buy two office buildings over the railway line at Montparnasse.

Although most of the investment has focused on office buildings, recent Japanese acquisitions have also included a 33% share in one of Paris’ largest shopping malls and the $41.5-million purchase of the Grande Hotel du Cap Ferrat in the South of France.

Japanese interest in Spain has centered on hotels and resorts. Notable acquisitions include the Ritz Hotel in Barcelona for a reported $80 million and the Villa Magna Hotel in Madrid for about $78 million. Those two deals accounted for the bulk of the total $182 million investment in Spain.

But the study forecast growing interest in Barcelona because of the 1992 Olympics; in Seville, which is hosting the World Exposition, and in the Costa del Sol, because of the area’s warm climate, golf resorts and retirement communities.

Investment in West Germany accounted for only $66 million in 1989, but Young said several Japanese banks were seeking to locate in Frankfurt as a springboard into Eastern Europe. The United Kingdom experience suggests that the presence of Japanese banks is closely tied to accelerated investment: Their loans on U.K. property leaped to $6.9 billion in November, 1989, from $99 million in early 1985.

Rodman and Young said Japanese investors have so far preferred the United Kingdom over other European nations for several reasons: less red tape over foreign investment, use of the English language and the London financial market.

But they disagreed on whether Japanese investment in Europe would ever reach the level of investment in the United States.

“I feel so much of Europe is untapped by the Japanese,” Young said. “The potential of the single European market must be great and extremely promising. And the Japanese feel comfortable there in the same way they feel comfortable in the United States. I think they’re genuinely liked.”

Rodman said some Japanese institutional investors may be turning away from the United States because they are generally disappointed by the rates of return on their properties. Many targeted returns of 6% to 9% but have actually realized average returns of 3%, he said.

In addition, rents have been declining in Los Angeles and office space is overbuilt in major cities.

In contrast, the office vacancy rate in London is near zero. The United Kingdom also offers “institutional leases,” which provide income security without as much risk of vacancies. Such leases are typically 25 years long and usually have five-year reviews of rents, which may only increase.

Still, Rodman said the United States would continue to attract two-thirds of overseas Japanese investment, much of it fueled by a second wave of smaller investors who are following the bigger players and reselling their shares to others in Japan.

“The increase in small investors is just staggering,” he said. “Most of their clients want to be in the U.S. So many Japanese have invested there. It’s harder to enter the European market; there’s less property, and you can’t acquire it as readily as in the U.S.”

Makio Nishikawa, Los Angeles manager of the real estate finance group for Yasuda Trust & Banking Co., agreed that the United States would remain the top investment choice for most Japanese. He said investors are moving into Europe because of the integrated market, a desire to diversify portfolios deemed too heavily skewed toward U.S. assets and a reaction against growing criticism of Japanese investment in America. But Europe will not replace America, he said.

“We are still believing in the power of the currency, namely the power of the U.S. dollar,” Nishikawa said.

Rodman predicted that Japanese investment figures would increase again next year after dropping for the first time in 1989. After meeting with about 30 clients in Tokyo this week, Rodman said the United States could expect 15 to 20 major office developments, continued investment in residential property, golf courses, retail shopping centers and retirement communities.