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Market

Market Overview

Land values throughout Japan increased on average for the first time in 17 years. Almost all of the major metropolitan areas experienced continued significant increases. Some central business and residential districts experienced increases in values for the fourth year in a row. All of this is a reflection of the record long economic recovery of the Japanese economy. Institutional investors continue to compete vigorously for a relatively small number of investment grade properties. Demand for office, retail, well-located industrial and residential properties has remained strong during the recovery, resulting in unit rental increases in all sectors, most notably in retail and office. The continued availability of relatively low interest financing continues to bolster values as well.

Office

The sustained economic recovery has resulted in continued strong demand for Class A and B office properties. Vacancy rates have continued downward and rents have continued their upward trend since last year, particularly in central Tokyo and some of the other major cities. Average vacancy for Class A office properties overall in the 5 central wards of Tokyo (Chiyoda, Chuo, Minato, Shinjuku and Shibuya) remain around 2% through the third quarter of 2007. Class A monthly rents, inclusive of common expense charges, steadily climbed throughout 2006 and early 2007, to as much as ･50,000 or more per tsubo in the Tokyo Station area and other major CBD's. The increases for new tenants tend to lag the market for new tenants, because the old lease law, which still covers the overwhelming majority of commercial leases in Japan, offers strong support to the tenant, which is often taken advantage of in negotiations.

Class A and B office properties continue to trade at net yields of as low as around 4.0% and 5.0% respectively, often lower, as demand from institutional investors, including the new JREIT's, remains very strong. With rents increasing, investors perceive much less downside risk, and remain very aggressive in their underwriting. The continued low interest rate environment also continues to fuel investor demand, but the big question is how much longer.

Industrial

The industrial sector in Japan continues to be the weakest in terms of land value movements, particularly in the more remote areas, but values and rents have finally stabilized. Industrially zoned properties that can be converted to other commercial, especially suburban retail, or residential uses tend to fare better than those which have no choice but to wait for the next industrial user. Logistics companies continue to be very active in reconfiguring their distribution locations throughout the country, and manufacturing continues to move to lower cost regions and overseas, particularly China.

Retail

Land values at prime retail locations seem to have reached a peak after strong increases for the last three years, benefiting from the rebound in the economy and continued strong competition among retailers and investors. In central Tokyo, some prime central locations have experienced increases in values for four consecutive years. But the story is different in suburban locations, where big box retail users continue to outbid warehouse demand everywhere they can.

Overall, retail in Japan continues to evolve from small, family owned shops to a sector increasingly dominated by convenience stores as well as national and regional shopping centers and specialty stores.

October, 2007