Property values have been delivering solid returns in recent years to the point that they might have been heading towards full valuation leaving them vulnerable to falls. The UK’s vote to leave the European Union exacerbated these fears leading to a large number of investors wanting to remove their assets from collective investments in property.
Since May, the outcome of the UK’s EU referendum triggered a change in perspective for investors across the globe. Property was at the forefront of this effect hence the Financial Times published an article on 1 July 2016 entitled “London property deals worth more than £650m collapse after Brexit”, and that only encompasses the deals that were in the public domain within a week of the referendum result.
Fearing a downturn in the value of property, an unusually high number of investors sought to withdraw their assets from property funds. This creates a challenge for those funds. A property fund is sold in units, and the value of the units reflects the total value of the fund’s underlying properties. In normal property market conditions, maintaining a fair unit price is challenging, during times of volatility it can become extremely demanding. The funds have to balance the interest of both the investors withdrawing and those that stay within the fund. Therefore, a number of property funds reduced their unit values, suspended trading and applied “dilution adjustments” (reductions in the prices of units in the fund) on investors seeking to redeem assets.
Our position is one of a long-term plan in the region of 10 years. This is designed to allow for a complete economic cycle (i.e. from good through bad and back to good again) over which time the effects of short-term volatility such as we have seen over the past five weeks, tend to be reduced. If one combines this with very careful analysis and asset selection, it might still be possible to find individual investment opportunities that could grow in value sufficiently to perform well in comparison with other kinds of financial investment.
Overseas investors, in particular those from the Far East, have invested heavily in the UK market in recent years. The recent fall in the value of sterling has the potential to make UK property cheaper for them to buy. What’s more, there are some trends that could benefit other parts of the property market, such as the changing habits of consumers as they increasingly buy online rather than in physical shops. A dedicated online retailer tends to need more storage space than is afforded by traditional warehouses, and the number of buildings available to meet this growing demand appears insufficient, which could lead to rent increases as companies compete for space. In particular, we expect to see continued growth among this type of property along key logistical routes near the M1, M6 and M25. All that said, there’s more to property than capital growth alone.
Investors seeking income or yield have increased their demand for yield-generating investments including the traditionally favoured asset class of bonds. This has helped to drive the demand for and price of bonds up and the yield that they generate down (the price and yield of a bond always move in opposite directions). Investors have been turning to property as a potential generator of yield which has pushed the yields on property down as well.
For example, if a property costing £100,000 generates an annual rental payment of £5,000, that equates to a gross yield of 5%. If the price of that property increased to £125,000, but the rental payment only increased in line with inflation (as we would expect) to £5,100, then the gross yield would fall to 4.1%. But this contraction of yield is of less importance if the investor has established a property portfolio and continues to hold the portfolio regardless of market movements in price. This is because the original outlay for the property doesn’t change so the yield remains relatively steady. What’s more, the income generated by property in the form of rent tends to move in response to inflation which helps to maintain the real value of the yield.
So, as we so often say, our focus is on selecting opportunities in line with our philosophy of long-term investing, and adapting that to the risk profiles applicable to different investors. Having established a foundation on these terms, success in investing often boils down to trusting the original research and portfolio construction, and not being distracted by short-term noise.
Forecasts of future performance are not a reliable guide to actual results in the future, neither is past performance a reliable guide to future performance. The value of investments, and the income from them, may fall as well as rise and cannot be guaranteed. Any views expressed are our in-house views at July 2016. Investment markets and conditions can change rapidly and the views expressed should not be taken as statements of fact nor relied upon when making investment decisions. This information may not be used, copied, quoted, circulated or otherwise disclosed (in whole or in part) without our prior written consent.
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