Investment Market – Year End 2012
PRIVATE RENTAL SECTOR ATTRACTS ATTENTION
The Montague report, published in August 2012, reviewed the barriers to institutional investment in private rented homes and recommended ways to encourage greater investment.
There was a suggestion in the report that a separate planning use be created for private rented accommodation. This would be an effective way to retain stock in the sector but it was mooted as a 10 year license, whereas, we cannot see why the use should be restricted to 10 years, and perhaps a separate use class should be created.
The initiative that would have a greater influence on the future direction of the sector, would be to allow SIPPs (Self Invested Personal Pensions) to invest in the private rented sector and we were dissapointed that this was not raised in the Montague Report.
Hearthstone is collecting funds from the market (including SIPPs), with a view to investing in the private rented sector and has some pre-acquisitions lined up. It is a welcome development and we expect this fund to do well. The Hearthstone UK Residential Property Fund is the UK’s first residential-focused property authorised investment trust. Its target is £250 million in the first 18 to 24 months, rising to over £1 billion by the fifth year. It has been reported that Hearthstone is already planning to launch a second fund.
The proposals to boost housing growth, announced by Government on September 6th, included measures to improve development viability by reducing the scale of planning obligations, particularly for affordable housing and to attract new sources of funding by offering government guarantees on 30 year debt in return for investors agreeing to buy newly built market rented housing.
The objective is to bring institutional investment into the private rented housing market. There have been early indications that some businesses are making ready. Barratt, for instance, has announced that it sees private rented sector as a ‘big opportunity’ and has suggested that it would like to build up to 5,000 homes per annum for the private rented sector in London. Its intention would be to build and sell on to a long term investor. It has however said that its business model relies on recommendations in the Montague report being implemented.
There is much talk in the property press about the emergence of an institutional investment market for private rented property. There is no doubt that pension funds and insurance companies continue to weigh up the opportunities in this market and to assess the returns that could be made from developing and owning private rented homes. In our areas however, buying into new developments of scale remains extremely difficult due to the strength of competition in the open market.
It is clear that the UK institutions remain unready to invest in the private rented sector (PRS). They cannot meet their target internal rates of return and for this reason, they are not able or willing to compete on price. One stumbling block is management costs which effectively reduce what appear to be fairly attractive gross yields of around 5.5% to a net yield of around 3%.
The reticence is overcome however, when the leaseholder is a social rented landlord. PRUPIM was reported in November to be in advanced negotiations with Genesis Housing Association over the sale and leaseback of its Stratford Halo scheme close to the Olympic Village. The scheme comprises 700 homes and 30,000 sq ft of commercial space. Under the proposal, Genesis would sell a long lease to the investor and then lease the properties back on a shorter lease with a rent linked to RPI. This kind of opportunity appeals to institutional investors because it seems highly unlikely that social landlords would be allowed to fail and thus the risk profile is attractive and income and liability can be reconciled.
Generally, effective management is critical in the rental sector to ensure that investment value is maintained. Other important considerations are that, as a rule, properties are cared for better when they are new and well-designed.
There are examples from less traditional corners of the institutional market. The Athletes Village for instance, on the Olympic Park, has been bought by a Qatari investment fund as private rented stock. At the moment however, there is less of an appetite for second hand stock – which has serious implications for this as a mainstream investment sector. London and Quadrant purchased a portfolio of 135 apartments in 8 buildings in October, which included properties in the City and West End.
The established buy-to-let market has been strong in 2012. There is a good supply of funds to acquire properties and borrowing costs are favourable. There has been an increase in the number of buyers acquiring residential properties for their pensions (outside SIPP). Buyers come with a wide range of professional backgrounds and are having to compete with overseas buyers who are also releasing stock into the private rented sector.
Housebuilders often need to achieve pre-sales on developments in order to demonstrate to the banks that they qualify for funding. Developers recognise that the the buy-to-let market is able to deliver early sales in the development process. This opportunity is generally not as attractive to private buyers who are looking for a home because they do not want to wait over 12 months to move home.
During 2012 it has become far more difficult to sell-on a pre-purchase contract before the development is completed. In the past, a purchaser could enter into a contract to buy a property early in the development process (off-plan) and then sell that contract on to a second purchaser at a profit. But banks, with their new risk-averse habits, will no longer lend money for the purchase of a contract that is being sold at a value above the original contract price, or even, in many cases, when it is being sold at the original sale price. The result is that the re-sale of pre-sale contracts is now only open to cash purchasers.
Initial yields shifted from 5.7% to 5.5% at the mid year and by a further basis point in the 2nd half of 2012 to end the year at 5.4%. This was driven by the improvement in capital values while rental values were broadly unchanged over the course of 2012.