The image of real estate in Italy has been tarnished by allegations of corruption hanging over the president of a high profile Italian pension fund in connection with the sale of its real estate portfolio.

‘Pre-existing' pension funds, of which Enarsarco, the pension fund for shopkeepers, is one, have historically had high allocations to property, but many are now in the process of unwinding their holdings - with some rather unfortunate consequences.

In September Enasarco's president Donato Porreca was arrested together with a consultant, Fulvio Gismondi, and the former president of the association of shopkeepers, Confcommercio, Sergio Bille. They are accused of accepting millions of euros in bribes from a property developer and financier, Stefano Ricucci, whose company stood to gain control of Enasarco's property portfolio. All three have been put under house arrest pending investigations by public prosecutors. The recent events have done nothing for the reputation of pension funds, nor of real estate as an asset within their portfolio.

"This gives an example of why a respectable pension fund would avoid buying real estate," says Piero Marchettini, a partner at Adelaide Consulting. "When you invest in real estate in Italy as an institution there is always the risk that pensioners and members think you are getting bribes."

Italy's pension funds are split between old style, or pre-existing funds which were established before the Pension Fund law of 1993, and new style funds, created under the new law which was finally enacted in 1998. The pre-existing funds are closed to new members, so their profile is maturing and their managers are changing asset allocations to reflect that. Real estate has in the past figured strongly in their portfolios, sometimes as high as 50%, but this is now being wound down. Mauro Mare is president of MEFOP, the Association for the Development of the Pension Fund Market. "The pre-existing funds, meaning the funds which existed before 1993, put most of their money into the real estate sector, both directly or indirectly through real estate funds," he says. "These funds are essentially managed by the banking sector and moved from a defined benefit scheme to a defined contribution one."

For Marchettini the implication for real estate investments is clear. "The DB funds are now closed and their members are progressively retiring," he says. "For this they need cash so of course they can't have real estate investments."

In any case new rules for investments for these funds are imminent, according to The Ministry of the Economy and Finance is expected to adopt a new decree by the end of January which will change the working rule of these funds - especially the investment limits.

There is some speculation about the precise nature of these changes. The main aim is the reform of the Trattamento di Fine Rapporto (TFR) due to come into effect in 2008. The TFR is a bonus which employees receive when they change jobs or quit work. From 2008, this money will automatically be transferred to a pension fund, unless the employee opts out. Money flows into pension funds are expected to increase considerably, but real estate investments are unlikely to benefit.

Fondenergia, for instance, is expecting an increase in yearly inflows of between 15 and 20%. "As far as we know, if it comes in this form into the fund, we have to invest it in a kind of guaranteed investment, which is something that doesn't suit investment in real estate," says Stori.

The issue is that the TFR provides a guaranteed return of 75% of the rate of inflation plus 1.5%. The reform is expected to stipulate that once transferred to the pension fund this money must be invested conservatively to provide a similar level of guarantee.

Real estate suffered from a poor image even before the recent scandal, according to Marchettini, because it was considered ‘political': investments were made in low cost housing that was bought above its market value for political reasons.

"The pension funds were ready to pay a price that was well above the real value. The developer was getting a lot of money compared to the real value of the building he was selling, and that was used to finance political parties," "says Marchettini.

New style funds cannot invest directly in real estate. They may invest indirectly but this has limited appeal, according to Paola Gianasso, who is responsible for international property at Scenari Immobiliari: "New pension funds can make indirect investment in property, in funds or in quoted companies. They are doing that, but not very much."

However, Alessandro Stori, director of Fondenergia, a new style fund for employees in the energy industry, would like to invest in real estate, when the timing is right:

"It would be a good diversification from a structural point of view, and of course diversification decreases risk, but as far as timing is concerned it's not good for the time being, because we have seen prices rise a lot in the last decade," he says.

But he considers the limitations of the law on the new style funds as too restrictive.

"The pre-existing funds were investing a lot of money in real estate, and in certain cases that didn't give a good result, but we could say the law on the newly established pension funds was an overreaction to that," he says.

Real estate as an asset class has become more attractive in recent years. Traditionally it consisted mainly of residential property, and with a very high ratio of owner occupiers - around 80% - opportunities for investment were limited. The same goes for commercial property: shopkeepers have tended to own their own premises, reducing the scope for investment buyers.

"The real estate market in Italy was dominated by residential which were bought by families and private investors," says Gianasso. "But since 2000 there has been a change because the commercial and offices market has become most important and a lot of investors are looking for opportunities in those fields."

Certainly insurers do not have the same restrictions as pension funds on their real estate investments. Insurer Generali's real estate portfolio is worth €20bn, of which around €10bn is in Italian property.

Giovanni Maria Paviera, general manager of the Generali Property Investments says investment is both direct and through the acquisition of units in real estate funds.

"In Italy last year we bought an office portfolio of roughly €100m and we also bought some units of an Italian closed-ended real estate fund, called Patrimonia Uno, for roughly €400m," says Paviera.

A breakdown of Generali's Italian property portfolio by market value in 2005 gives a 5% allocation to residential, 84% to office and direct use, and 11% to other uses, mainly retail, logistics, hospitality and leisure.

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