(Bloomberg) -- Real estate investors in Europe face a new risk to underlying valuations, the asset management unit of Deutsche Bank AG says.

Lawyers advising property owners have warned that vast investments in energy efficiency are needed to prevent assets from losing value to the point of becoming stranded. But property owners, already grappling with higher interest rates and shifting occupancy norms, are now stalling such capital allocations. 

The reason behind the development is a widespread fear of being caught out by complex and evolving green regulations, according to Aleksandra Njagulj, the global head of sustainability for real estate at DWS Group.

“We’ve been riding on a roller coaster of new or revised regulations,” Njagulj, who helps oversee €67 billion ($71 billion) of direct real estate assets at DWS, said in an interview. “And they keep coming.” 

For real estate investors, the “overwhelming feeling” is now one of “uncertainty,” she said.

Regulations driving such concerns include the Energy Performance of Buildings Directive (EPBD), which has the potential to saddle landlords that fall behind on such investments with assets that can no longer be sold or rented.

But the foundation on which EPBD rests contains a few holes. A key concern for investors has been how so-called energy performance certificates (EPCs) for buildings are used to determine valuations. As things stand, national regulators get the final word and there’s evidence of significant discrepancies across borders. EPBD is supposed to fix that, but how remains unclear.

Meanwhile, investment managers are under pressure to construct portfolios that live up to European Union-wide requirements under a separate rulebook, the Sustainable Finance Disclosure Regulation. SFDR is currently subject to a wholesale review that the European Commission has said may result in fundamental changes to how asset managers will need to operate in the future. 

For now, SFDR doesn’t really recognize so-called transition assets as green. That means funds can’t necessarily be labeled as sustainable, even if they allocate capital to make badly insulated, energy-guzzling buildings greener. The European Commission has signaled that may change, but it’s not clear when. Any concrete decisions on SFDR will have to wait for the next commission to be formed after elections in June, a spokesperson for the EU’s executive arm said.

“We know we have to fix the worst” buildings to reduce their energy consumption and carbon footprints, Njagulj said. But in reality, “quite a lot of industry players and quite a lot of asset managers and portfolio managers are likely going to say, ‘Let’s wait to see’” what happens with the regulations before acting, she said. 

The most ambitious investors will move ahead, but the broad base will wait until there are clear regulations, Njagulj said. And that “directly impacts valuations,” she said.

It also means property buyers face hidden risks. “If somebody can still sell a building that’s at risk at the same price, they’re not going to be investing in fixing it because they’re not going to necessarily get that payback,” Njagulj said.

The development is playing out as property markets experience a more general price shock. Commercial real estate prices plunged last year, while returns on German and French offices were the worst on record, according to MSCI Real Assets. 

At the same time, there’s a growing awareness that the stock of European buildings urgently needs to be upgraded if Europe is to live up to its goal of reaching net zero emissions by mid-century. Around 40% of the energy used in Europe is in buildings, and they contribute more than one-third of energy-related emissions, according to the European Commission. 

The EU says that to reach net zero emissions by 2050, an additional €275 billion needs to be spent annually on property renovations. For now, refurbishments in the region only reduce annual energy consumption by 1%, the European Commission has said. 

Investors that allocate more funds to green property renovations are likely to be rewarded by the market. Research by CBRE, a real estate adviser, says green certified buildings command a 7% rental premium when a building’s size, location, age and renovation history are taken into account. 

In the absence of clear green regulations in the EU, Njagulj says DWS is looking for new metrics that will clarify the extent to which real estate investments can be considered sustainable.

Fund managers now use the Taxonomy Regulation, the EU’s official list of sustainable activities, to classify assets. But it’s a process that comes with “astronomical quotes” from consultants, she said. DWS is “trying to figure out a way to do it in a reasonable way, using maybe existing building certifications,” Njagulj said.

She expects the EU to need roughly two years to finalize a revised SFDR, which is also what EU states are likely to need to work the EPBD into national law.

In the meantime, European real estate has “a lot of existing stock that we need to fix,” she said.

(Adds EU Commission comment in ninth paragraph.)

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