Returning to the property market - Veterinary Practice
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InFocus

Returning to the property market

Andrew Neale suggests the time may be right for a fresh look at investing in commercial property

COMMERCIAL property investors
became accustomed to high returns
in recent decades and an element of
complacency inevitably set in. Many
forgot, however, that the property
market is linked to economic
activity.

As a result, these property
investors were taken
aback by the depth
of the recession in
2008-09 and its
impact on their
portfolios.

It has started to
become clear lately
that UK property has
been making its way
back into the
investment spotlight.
Residential property
prices appear to be
springing back with the
slightly more optimistic consumers
leading the way, but the market remains
tough.

On the commercial side, values have
suffered their most significant downturn
on record over the last couple of years,
falling a massive 44% between June
2007 and July 2009 (the IPD UK
Monthly Index).

Commercial property investment
involves the buying and selling of
buildings or land with the aim of
generating a profit from capital gain and
rental income. It is a highly specialised
investment sector, and as such it is
important to understand the key
benefits that exposure to this asset class
can bring, as well as the different
property investment options that are
available.

Despite the uncertainty generated by
recession and financial crisis, property
still has an important place in any well
diversified investment portfolio. Its
benefits are wide-ranging:

  • low volatility over time when
    compared with other asset classes;
  • diversification from equities and
    bonds over the medium-to-long term;
  • a stable income from rent payments;
  • potential for capital growth;
  • the “tangible” aspect of investing in
    “bricks and mortar” assets.

Different types of commercial
property
The commercial property market can be
broken down into two distinct types;
direct and indirect property.

Direct property refers to the buying
and selling of physical properties. Direct
(unlisted on equity markets) property is
a tangible asset and many investors refer
to this as “bricks and mortar” investing.

Indirect property refers, amongst
other things, to shares in listed and unlisted property companies. Property
companies generally own, manage and
develop properties, so investors are
participating in the property markets
indirectly.

Property companies can be listed on
a stock exchange; for example, there are
around 50 real estate
companies listed in the
UK – including Land
Securities, British
Land, Liberty
International,
Hammerson and
Segro – and hundreds
more are listed
worldwide

Commercial v.
residential
property

Commercial property
is not like residential property as an investment. Although both have
delivered high returns for investors over
the past 10 to 20 years, there are critical
differences between the two.

  1. Residential property returns come
    largely from capital growth – few of us
    use our home as a source of income
    through renting a room or buy-to-let
    investing – while commercial property
    returns are mainly derived from
    income.
  2. Lease length is much shorter with
    residential property (typically six
    months) than with commercial
    property, where long-term contracts of
    five or 10 years are more common.
  3. The cost of buying a commercial
    property is usually significantly more
    than a residential asset, often running to
    hundreds of millions of pounds for
    large shopping centres and office
    buildings.
  4. Liability for the upkeep of a property
    also differs between commercial and
    residential markets. While
    owners/landlords are responsible for
    the upkeep of a residential building,
    when it comes to a commercial
    property it is the tenant who is usually
    liable for any repairs and maintenance.

With the buy-to-let market
continuing to suffer in the wake of the
credit crunch and the restrictions on
redemptions imposed by many UK
commercial property funds, what next
for investors seeking investment
opportunities in property?

The likely choice would be to
consider commercial property once
again. If the IPD UK Monthly Index is
anything to go by, capital values of UK
direct commercial property may be
nearing their lows. This index recorded
its first monthly rise in August 2009
since June 2007.

However, such an opportunity is
not just limited to the UK. Investing in
global property can provide excellent
geographical diversification across
Europe and into Asia, opening up new
and exciting investment opportunities
in areas of the world where economic
growth is more robust.

Investing pragmatically in property
need not restrict you to direct property:
fund managers able to allocate across
direct property and both listed and
unlisted property securities can also
add significant value if their timing and
strategy is correct.

Confidence returns to UK…

Since last summer, we have been
monitoring the triggers that we
believed would indicate an imminent
recovery in the UK property market.
This was at a time when conditions for
commercial property were continuing
to deteriorate but at what we perceived
to be a slower pace.

There has been a noticeable revival
in the UK commercial property market
over the past few months with capital
values, as measured by IPD, continuing
to rise, whilst there has been renewed
interest in UK commercial property for
overseas investors, enticed by
favourable exchange rates and relatively
attractive pricing, but the level of
interest among UK investors has also
risen sharply.

…but limited stock is a challenge

While interest in the asset class is
undoubtedly growing and property
funds now have money to spend,
buyers currently face a scarcity of
prime quality stock. Unlike the
property cycle of the ’90s, speculative
development has been better controlled
during this cycle.

This time round, property
developers reduced the supply pipeline
when development funding largely
dried up and economic conditions
worsened whilst they have kept it that way for the last 12 months or so.
Meanwhile, UK banks and financial institutions have added to the
congestion by holding on to distressed
assets that were seized at the height of
the financial crisis. It was widely
expected that the banks would flood
the market with these properties but
this hasn’t happened.

The banks have instead held onto
these assets, rather than sell at low
prices, meaning a lack of acquisition
opportunities for cash-rich investors
and property funds. This situation has
given rise to some competitive bidding
situations for available properties,
particularly in the London offices
sector, which is pushing yields lower
and prices higher.

So where to this year?

Unsurprisingly, some commentators are
concerned about the prospect of a
pricing bubble and that the UK
commercial property could suffer a
temporary setback, especially if prices
continue to rise without an
accompanying upturn in economic or
rental growth.

Until a state of equilibrium returns
to the supply/demand of UK
commercial property, the current
situation is likely to be self-
perpetuating.

However, it is thought that the UK
banks will encourage property clients
to offer stock to the market as pricing
continues to improve, rather than flood
it with a large volume of assets all at
one time. This means that UK
commercial property could once again
offer an attractive investment
opportunity, particularly given the yield
advantage it offers over other asset
classes.

  • The author can be contacted at:
    Allchurch Bailey Wealth, 93 High
    Street, Evesham, Worcs. WR11 4DU;
    telephone 01386 442597, e-mail
    andrew.neale@abwealth.co.uk; website
    www.abwealth.co.uk.

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