UK Residential Property as an investment asset class
Investors who want to try and get in at the bottom of the housing market will find plenty of property funds to cater for their needs. Tony Sanchez, director of alternative investment consultancy Clara Capital, explores the prospects for UK residential property funds.
Since the beginning of the year and even before, cool-headed professional investors have been slipping quietly back into the UK’s battered residential property market to pick through the wreckage of distressed re-sales and deals from desperate developers. Now, as the monthly house price statistics finally indicate that the market appears to have troughed, private investors are starting to look with renewed interest at the potential for getting in at the bottom – and a raft of specialist property funds has been launched to cater for their needs.
The fundamentals are certainly interesting. According to Land Registry figures, average prices in England and Wales had fallen 17 per cent from their high point around November 2007 to April this year, since when there has been a small recovery. But prices are still down more than 15 per cent on the peak.
Whilst the Nationwide House Price Index disappointed homeowners with August‘s number; showing a drop of 0.6% for the month, over the last 12 months the index has been stable (just 0.4% lower) and over varying time periods this barometer of UK residential property has outperformed the benchmark FTSE 100 – most starkly since the start of the new millennium. This UK residential property outperformance vs. the FTSE 100 holds true also if you are to start the comparison from 1990 or even from the early 80s (Nationwide Index is up nearly 560% since 1984 vs. FTSE 100 up just over 500%). This outperformance has also come with lower volatility than stock market returns and volatility in the stock market is likely to persist.
Global equity markets will likely remain volatile whilst the European peripheral crisis remains unresolved and ‘the Street’ continues to reassess global growth prospects (note the recent multiple percentage point swings intraday in equity markets around key macro data points e.g. manufacturing surveys from Philadelphia and Chicago)… In Europe, near term political risks surrounding the approval of the EFSF by national governments and longer term the drag of austerity, slow growth and possible restructurings (namely Greece) could sustain recent volatility. With globalisation, free trade and free capital markets amongst other things, global stock market indices are highly correlated – the UK property market is less so and thus offers investors benefits in a multi-asset portfolio even if equity market exposure is global.
There has also been a big change in the investment market since the beginning of the year, with a substantial number of high net worth investors with cash – many of whom have never held residential property before – taking the view that bricks and mortar are now a very good investment.”
There are several other big pluses as far as investment via a collective investment scheme is concerned. First, although these funds are only available to ‘sophisticated investors’ through financial advisers, they provide access to a portfolio of properties. For relatively cautious investors, that’s vastly preferable to tying up large sums of money in a single, illiquid asset.
Second, at a time when buy-to-let investors may be deterred by the difficulties of finding a large enough mortgage deposit, some funds offer geared exposure without having to go down that route at all. And third, unlike direct property holdings, residential property fund investments can be bought and held tax-efficiently as part of a self-invested personal pension (Sipp).
What’s on offer
Walls & Futures London Growth Fund
A development fund investing in residential properties in Prime Central and South West London. It has a target return of 10.49% IRR over its five year life.
Returns are generated by adding value to period properties through refurbishment and redevelopment and further enhanced by rental income and capital growth. This approach carries significantly less risk than relying on market movements.
Rather than taking a scatter gun approach and investing throughout the UK the fund is targeting very specific locations in London where prices have remained robust despite the economic downturn. Land Registry data shows that prices in the funds target locations have risen by 29% between Jan 2007 and July 2011 while prices in England & Wales have fallen by 5.7%.
The reason for this is that Prime Central & South West London suffers from a chronic demand and supply imbalance. The Mayor of London has a target of delivering 32,250 new homes per annum until 2021, however according to the Savills, completions stand at just over 18,000.
The shortage is further exacerbated by overseas demand. An estimated £2.7bn was invested in Prime Central London and £2.2bn in South West London in 2010 from international buyers.
Joe McTaggart, Managing Director at Walls & Futures said:
“Our strategy and expertise are already paying dividends. Having successfully closed the first round of fund raising in May, we have already started making investments which have resulted in an increase in the funds value. This is obviously good news for our investors, a great number of which are IFA’s themselves”
The fund is still open to new investors with a minimum investment of £5,000. Along with direct investment, the fund is available on Ascentric, Nucleus and Transact wrap platforms and has been accepted for investment by over 25 leading SIPP providers.
WHCM UK Residential Opportunities
White House Asset Management Ltd. have created the WHCM UK Residential Opportunities LP, a growth fund, which offers IFAs clients an opportunity to invest in UK based residential property either directly or through a pension. Through exposure to residential property, the fund aims to provide investors with the opportunity to create a balanced portfolio by investing in an actively managed asset backed investment.
White House Asset Management Ltd.’s competitive advantage is derived from its Directors considerable real estate experience, which covers development, acquisitions and disposals, property appraisal and active asset management of property nationally. Combined, the Directors have over 48 years of property experience and have been involved with property deals totalling £375m.
The WHCM UK Residential Opportunities LP fund seeks to acquire UK property through auction and a network of contacts at up to 40% discount to their open market value. The property portfolio will consist of c70% rental properties and c30% refurbishment opportunities and is designed to produce a target return of 12% pa over the 5 year term.
Mark Brooker, a Director at White House Asset Management Ltd. said:
“The timing of this fund is perfect, as property values remain low and rental demand is increasing. This is largely due to the fact that many mortgage providers continue to have stringent lending criteria and low liquidity. The UK recession continues to have a huge impact on property prices. There is an opportunity to acquire properties at favourable prices. Many buyers, developers and landlords are being forced to sell properties as “distressed sellers”, so there is an opportunity to purchase properties at up to 40% below market value.”
Black Katz London Residential Property Fund
Estate agency Black Katz has unveiled plans to raise £4.5m for a five year closed-ended property fund that will aim to buy undervalued properties in London.
The fund will refurbish the properties and then let them to professional tenants to try and generate high income levels, before selling them all in the latter part of the fifth year.
The London Residential Property fund will target net returns of 12 per cent for investors.
It will be administered by Gallium Fund Solutions and will target both high income on its properties and capital growth over the investment term.
It will adopt “moderate non-recourse gearing” of £6.5m on top of the client investments, taking the total targeted fund size to £11m.
The directors of Black Katz will be invested in the fund.
Director Andrew Black said:
“We have a proven track record in the London market of sourcing and refurbishing property for maximum rental income and capital growth.”
Quantum Residential Recovery Limited Partnership
The Quantum Residential Recovery Fund (the “Fund”) offers qualifying investors the opportunity of capitalising on current market conditions in the UK residential property market. The Fund Manager is targeting a net return to investors of 20% per annum which is reflective of the attractive property stock price available to the Fund. Due to this key factor whereby the Fund Manager is buying at a discount against today’s valuation rather than any historical reference, returns are not reliant upon unrealistic growth expectations in the market.
The Fund successfully reached its first closing target on the 31st March 2011 with £465k raised from private investors. A number of acquisitions are now underway and the Fund Manager expects to be able to show interim returns on a regular basis. No payment is to be made through dividends with all gains made from rent and capital returns being reinvested back into the Fund so as to expand the portfolio and ultimately increase the return on investment at the end of the Fund term.
Structured as a five year closed end fund the minimum capital commitment is set at £5,000 and the Fund is suitable for investment through Self-Invested Personal Pensions (SIPP) and Small Self Administered Schemes (SSAS).
Urban Share Opportunity Fund
The Urban Share Opportunity Fund offers a portfolio of student and young-professional accommodation in and around the City of London & Canary Wharf. To date, £1m has been raised out of the Urban Share Opportunity Fund’s £10m target.
The properties will be bought with cash and then geared at 50 per cent to maximise the profit made, said Urban Share.
This will be used to buy around 50 below market value properties in London’s zone one and two that will then be let to students and young professionals.
The fund will run for 10 years and will target an international rate of return of 11.33 per cent with the expectation of returning investors’ money plus 70 per cent over the term of the fund claimed Urban Share.
The fund has a minimum subscription of £25,000.
Urban Share believes that the UK residential market has shown lower volatility and higher growth than UK equities over the last five, 10 and 20 years.
Richard Klin, founder and director at Urban Share, claimed there is enormous demand for this sort of accommodation and the sector has continued to return consistent yields.
He said: “The fund provides hassle-free exposure to a London residential property market predicted to increase by 38 per cent by 2015.”
Duncan Kreeger, Chairman of West One Loans said:
“Bridging can be used for many purposes, one of which is to borrow money against actual market value of a property rather than a discounted purchase price.
Many of the people who invest their money with West One Loans via an Unregulated Collective Investment Scheme are keen to lend on BMV properties.
Perhaps this is no surprise. Investing money in bridging loans via UCIS allows investors to make a potential return of 0.96% on their money every month – far higher than some alternative asset classes. If you’d invested £180,000 in property back in November 2007 – that was the average cost of a home back then – you’d have made a paper loss of about £20,000. Anyone who invested that £180,000 with us could have been sitting on a £275,000 cash pile by now.
People are also attracted because it’s a short-term investment. The average lifespan of a West One loan is about 6 months. Sometimes it can be even faster than that. One borrower came to us for £1.1m after his bank began to get nervous about a purchase he was making. He took out a loan with us to do the deal – and the bank got over their woes after a day. The investor who financed the deal made more than £13,000 in the space of 24 hours.
So far, it’s proved a very safe investment, too mainly because we take risk management very seriously. As a result, no one has ever lost their capital with us and no one has ever lost their interest with us. There have been times when the loan has not gone to plan and it has taken longer to get the money back than anticipated but the investor has still had his reward despite this. Of course, no investment is guaranteed and it is possible that people could lose money if a deal goes badly wrong. Limiting the downside by careful choice of lending and restricting the loan to value should provide a buffer to reduce the risk.”
Unregulated Collective Investment Schemes (UCIS)
All of the UK Residential Property Funds mentioned in this article are structured as UCIS.
Every fund structured as a UCIS must have a firm authorised by the Financial Services Authority to act as its ‘operator’. This is because establishing, operating or winding up a collective investment scheme is a regulated activity and carrying out the activity without the proper permissions is a criminal offence.
The Financial Services and Markets Act 2000 makes it an offence to market an unregulated collective investment scheme to the public. Under FSA guidance, ‘marketing’ is given a very broad construction and it can mean any communication which might lead directly or indirectly to an investment. When looking at the meaning of ‘the public’ the following types of investor are excluded:
Investment Professionals; being:
- Authorised persons
- Exempt persons (not including Appointed Representatives but including professional firms)
- Investors whose ordinary activity is investing in unregulated collective investment schemes
- Governments, local authorities and international organisations
- High Net Worth Companies and Unincorporated Associations
- Sophisticated Investors with a certificate signed by an authorised firm (other than the scheme’s operator); and
- Members of associations predominantly made up of exempt investors.
There is an additional set of rules which have been created by the FSA allowing a scheme to be promoted to investors who have undergone an assessment by an authorised firm, including:
- individuals for whom the scheme is assessed as “suitable” (usually by a financial adviser); and
- individuals for whom an assessment of experience, expertise and knowledge is undertaken (usually by a financial adviser or the scheme’s operator) and the scheme deemed “appropriate”.
In these cases, the scheme can be promoted to a potential investor on the basis that they will not be allowed to invest unless they successfully complete the assessment (which may occur after the promotion has been made). In most cases, an FSA authorised firm can approve the scheme documents and summaries for distribution by an unauthorised person. In practice, this means that an unauthorised firm using an approved document can promote a scheme beyond certified investors, as long as the operator of the scheme (or another authorised firm, such as an IFA) will make assessments of potential investors and filter out any inappropriate applications).
Whichever exemption the investors fall into, the documents for the scheme must meet detailed requirements laid down by FSMA, the Treasury and the FSA. These include presenting a balance of risk and reward, carrying appropriate warnings, giving sufficient information, and always being clear, fair and not misleading. Summary documents can be used, but these also have to meet the rules and must be consistent with all of the other information given to investors.