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Commercial activity

Back in March, I mentioned that I was starting to detect signs of optimism among commercial property fund managers after a torrid couple of years. Don Jordison and Chris Morrogh at Threadneedle had done better than most during the downturn because they had kept a lot of the fund in cash.

Since then, they have been gradually investing more in the market as opportunities have arisen. The fund size now stands at £52m and by mid-October they expect the cash levels to be down by around £10m (unless they get a flood of new investors in the next few weeks).

We at Hargreaves Lansdown have had a negative view on property for many years (in fact, with hind-sight, our bearish stance started a couple of years too early).

However, we have now moved to a more positive stance and believe it is time for investors to reappraise the sector.

Having said that, I do not expect the UK economy to shine over the next 12 months – far from it. I believe we are living in a phoney war at present, with none of the politicians willing to tell the truth. This is because the truth is almost too painful to consider. Our economy is in dire straits. However, for that reason, I expect interest rates to stay extremely low for the foreseeable future and this is good news for commercial property.

One of the consequences of the crash in the commercial property market is that yields have now risen to 8 per cent, around double the yield available on government gilts. Only a few years ago, it was below the gilt yield so that is a rapid change and suggests that commercial property could be the cheapest it has been since the 1990s.

Income is the prime reason to buy commercial property. In fact, income accounted for 77 per cent of total returns between 1993 and 2003 and an overwhelming 94 per cent between 1993 and 2009. The overall yield on the Threadneedle UK property trust should be about 6.7 per cent once it is fully invested so you need to be careful in managing clients’ expect- ations as the present yield is only 3.5 per cent.

I think it is fair to say that most of the sellers have now gone from commercial property and liquidity has improved. In fact, there might be too much liquidity in property funds, meaning that they could start to have so much cash that it is difficult to buy quality assets at a good price.

I think there is a short-term squeeze going on. The beleaguered banks that own huge amounts of commercial property were expected to dump much of this on to the market in order to raise money. However, the banks have behaved rationally for once and are biding their time. This means there is no great supply of property and, with foreign investors attracted to the UK by a weak pound and funds sitting on plenty of cash, there could be a rush to invest in commercial property.

The IPD index, which measures commercial property prices, has just had its first positive month since mid-2007, rising by 0.2 per cent. Note, however, that commercial property should not be bought as some kind of short-term bet. I am suggesting that investors focus on the long term (by which I mean five-10 years) and simply dip their toes in the water for now. A diversified portfolio probably should not have more than about 2.5 per cent to 5 per cent at present in my view.

One of the beauties of the Threadneedle fund is that it is quite small, which means it can buy into smaller properties where there is greater availability.

Bigger funds have to find much bigger premises to buy – a harder task. Threadneedle also has one of the sharpest property teams that I have met. I feel confident that Don Jordison and his team can not only find good properties but also reliable tenants so I am now moving my stance on the commercial property sector to a tentative buy for the first time in over six years.

Mark Dampier is head of research at Hargreaves Lansdown


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