Talk of more specialist real estate investment trusts is premature, according to industry experts who believe the market needs to learn to walk first before it can run.
In the months leading up to their introduction, it seemed that any big company with a significant interest in property would be looking to convert itself into a Reit.
So far, nine of the biggest names in UK property, including British Land, Brixton, Hammerson, Land Securities and Slough Estates, have chosen to convert into Reits.
Reita project co-ordinator David Butler says: “It was always expected that the big listed property companies would want to become Reits. There was no doubt about that.”
However, there were also strong indications that companies whose core business was not property would want to take advantage of the tax benefits offered by the new asset class. These included pension funds, major retailers, pub and hotel chains, and perhaps hospitals and prisons.
Butler says: “Tesco, which has a sizeable proportion of its assets in property, and Marks & Spencer were just two companies expected to look at spinning off their property interests into a separate Reit.”
But so far, neither has thrown its hat into the Reit ring, although pub landlord Enterprise Inns is considering converting.
On paper, there is little to stop any company whose sole purpose is the ownership and management of investment properties to convert to a Reit, the only proviso is that it has to pay a tax conversion charge equivalent to 2 per cent of the value of the property owned by the company.
However, there are issues that prevent some firms from becoming a Reit because as well as having a full listing, a UK Reit is, for example, expected to be making rental profits of at least 1.25 times any interest payable on debts.
In the US, where they were initially developed, Reits have become increasingly diversified, investing in public property, including prisons and hospitals, but for similar specialisation to happen in the UK will require some tweaking of the Reit rules.
Butler says restrictions on owner-occupied property would make it tough for some companies to convert.
For example, a company would have to sell its property to a Reit and enter into a leaseback, which would make the idea of prison or hospital Reit a challenge. They are property-related activities but their method of income may not fall within the Inland Revenue’s definition of property income.
A more obvious and immediate candidate for a Reit sector, believes Reita, is the pub sector.
It calculates the net assets of the top five “asset-intense” pub companies at £18bn. Butler says: “A pub Reit could offer the sort of asset intense, low-tech, cash-generative business that the Government has been trying to make available to the man on the street through the introduction of Reits.”
Stephen Herring, director of real estate at BDO Stoy Hayward, believes there is huge potential for specialisation. He sees the launch of Reits offering investment in specific residential categories such as key worker housing, self-storage and even student accommodation.
“Our clients are very much interested in the commercial side but, by the end of the year, there may be some residential funds focused on categories such as student housing,” he says. Within two to three years, Herring predicts the emergence of both super and niche Reits. He says: “Land Securities is already a diversified property company but Brixton specialises in developing industrial property.”
Whether demand for these super-specialised Reits will materialise is debatable among the retail market. Research carried out by Reita appears to show that advisers expect the highest demand for sector-specific Reits to be for offices, retail, residential and industrial and warehousing – hotels, pubs, prisons, hospitals barely getting a look in.
F&C Property Asset Management managing director Paul Herrington says advisers who are looking for property specialisation would still be better off buying into commercial property trusts.
He says: “The main impact of Reits might be to raise the profile of property as an asset class, which until now has been largely subsumed within the wider equity market. If Reits can make advisers more aware of the potential held by property investment, whether they be a consultant actuary or an IFA, then that is of benefit to the whole property industry and the asset class.
He believes that more specialist Reits will develop, whether clients want the risk that comes from exposure to just one area of the property sector, remains to be seen.
New Star UK retail marketing director Richard Wilson says: “The returns from property shares and Reits are much more closely correlated to equity returns than physical property, so offer less diversification.
“Recent stockmarket volatility is a reminder of the importance of holding asset classes that are not too closely correlated to each other.”
Santander Asset Management UK head of client investment John Kelly says that Reits are bringing structural long-term improvements to investment in property but advisers should view the vehicles with caution for now.