In the Autumn Statement, Chancellor Philip Hammond set aside several pots for housing in the £23bn National Productivity Investment Fund. Such policies could boost asset manager involvement in the residential property sector as it seeks to address housing supply and professionalise the private rented sector, property specialists say.
Residential property accounted for 6.4 per cent of investor holdings in 2012, rising to 7.4 per cent last year before falling slightly to 6.6 per cent in 2016, according to the Investors Property Forum. Investors like Legal & General have made headlines for large-scale investment in housing projects, which will be particularly welcomed as the Government tries to deliver one million homes during its tenure.
The private rented sector (PRS), investors’ favoured residential asset type, was worth £1trn at the end of 2015 compared with £871bn for commercial property, according to the Property Industry Alliance. Build-to-sell and build-to-rent were the next most popular residential investment sectors.
However, commercial property funds are more popular among fund group’s retail product offerings. The Investment Association does not include data on residential property funds, deeming the sector too niche, but property funds as a whole have £24.9bn assets under management.
Hermes Investment Management is one of the few asset management companies to offer wholesale investment in residential property. Its Vista UK Residential Real Estate fund, run in partnership with real estate agent Countrywide, is dominated by institutional money, but Hermes real estate director of fund management Ben Sanderson says residential property is well on the way to establishing itself as an attractive asset class for wholesale investors.
“The growth of the private landlord has shown us in the asset management space what an opportunity there might be in the private rental space,” says Sanderson.
The fund launched last year and has four properties across Manchester, Birmingham and Nottingham totalling £25m.
Early in 2017, the fund’s invested capital is set to almost double when a new-build Liverpool apartment complex with 354 rooms completes.
Sanderson points out UK apartment blocks suffer from the “Swiss cheese effect”, whereby a mixture of owners own all the various units. That might work for individual landlords, but fund managers want the freehold and to be able to manage the whole building to keep costs down. “If you wanted to buy a £50m apartment block to rent out to private tenants there’s hardly anything to buy,” says Sanderson.
Chelsea Financial Services managing director Darius McDermott says the fact so many UK households have most of their wealth in property is a sensible reason to diversify into other assets. “There’s broadly been a lack of interest in these funds. Most people have their biggest asset in their own property. Do you want to invest in another asset that’s directly correlated with your biggest holding, and, more realistically, your biggest liability, which is your mortgage?”
This is a debate London Central Portfolio investment director Hugh Best says he has had with major wealth managers since the firm launched its first residential fund a decade ago.
He says: “They simply won’t look at [the funds] because they believe from an asset allocation perspective, the retail market has that exposure from their own home. They don’t recognise the residential market isn’t homogeneous.”
LCP’s funds invest exclusively in central London property. “Owning your own home in Hull is very different to owning a share of a one-bed private rental flat in Knightsbridge,” says Best.
The strategy to date has been capital growth only with rental income covering loan interest and running costs. Investor demand means the LCP IV fund, launching next year, will deliver income even though this is less tax advantageous and has traditionally been sought in commercial property funds.
The Guernsey-domiciled investment company will seek to raise £50m and will target a return on investment of 100 per cent, including 5 per cent annual distributions from year three – the same year the fund can be exited.
While Kames Capital has no plans to launch a residential fund in the near term, head of property Phil Clark says he would like to support the sector.
He says: “It’s one of those sectors that’s still gathering momentum from institutional and wholesale investors. I do think the direction of travel is for residential property to become a significant part of investors’ holdings.”
However, Clark, who helped establish the Residential Special Interests Group when he was chair of the Investor Property Forum, warns it is going to take time to create a pipeline of properties.
Discretionary fund manager Creechurch Capital chief executive John Greenwood recommends the Castel Residential Property fund, which agrees long-term leases with Local Authorities to provide accommodation to vulnerable adults who require supported living. He says: “This means the fund enjoys all the usual benefits of a residential property fund as well as the long-term lease underpinning this.”
The UK is one of the few developed markets that does not have a large institutional presence in its residential property market, says Andrew Smith, chief investment officer for Hearthstone Investments, one of the few firms to offer residential property funds to retail investors.
The Hearthstone UK Residential Property fund invests in a mixture of houses and smaller blocks of apartments across the UK. Smith says: “Some investors are focusing on very large apartment blocks in big cities. That’s a case of introducing the US multi-family style to the UK, so big professionally managed blocks with facilities on site.”
An addiction to tangible assets could hold investors back from enjoying the diversification and economies of scale of a pooled investment, Best says. “People like the idea that they have their bricks and mortar and that if worse came to worst they could always go and live in it.”
With the current tax regime, Best reckons existing buy-to-let investors won’t increase their portfolio, but nor will they suddenly divest – which would be an unwanted shock for the UK housing market.
Brexit could impact immigration and students coming to study in the UK, but is not likely to be significant enough to upset the supply/demand dynamics, says Sanderson.
Even facing an uncertain economic outlook, he makes the point that everyone needs a place to live. “There is positive rental growth and that’s quite rare across the investment market.”
Sanderson reckons the student housing market, which used to be dominated by private landlords and universities, could provide a parallel for asset manager investment the residential property market.
He says: “Institutional capital came into that space and realised there were positive supply and demand characteristics. There was also a need to provide a better quality stock. Lo and behold, now you have maybe £20bn invested in student housing.”