Exploring The Merits Of UK Residential Property Funds

Wendy SpiresDeputy Editor

With investors still smarting from losses incurred during last year’s financial crisis many remain wary of complex financial instruments, preferring instead to invest in assets such as residential property where it is plain to see what the investment “does.”

In turbulent times investors understandably want their investments to be tangible and transparent, meaning that bricks and mortar have significant psychological appeal.

However, the time and stress involved in making a direct investment and managing a property are enough to put investors off – not to mention the fact that investing hundreds of thousands of pounds in a single property represents a risk that many would be unwilling to take.

This is where property funds come in - offering investors exposure to the asset class but without many of the drawbacks associated with direct investment.

An attractive alternative

One of the primary attractions of residential property funds is that they enable investors to gain exposure to the market at a lower level of investment. The minimum investment in residential property funds is typically around £10,000, making them an option which, according to Naomi Heaton, chief executive of property asset management firm London Central Portfolio (LCP), “can be vastly more attractive than settling a large sum of hard earned cash on a single asset.”

Investors are also attracted to the reduced risks of investing in a portfolio of properties rather than a single one, as no matter how well researched property investments can all too easily turn sour, leaving one burdened with a highly illiquid – and costly - asset.

But what is also extremely attractive about residential property funds is that they enable investors to avoid the inconvenient and undeniably stressful side of the buy to let story, such as arranging a mortgage, the hassle of the purchase process and the time-consuming subsequent management of the property.

While rental yields are undoubtedly attractive, being a landlord is certainly not for everyone.

Picking a prime location

As the plethora of television shows on the subject will testify, investing in residential property on a buy to let basis has been a popular practice for many years, but for every story of success there are many more instances of failure. As the credit crisis showed, markets can turn very quickly and the bottom can rapidly fall out of both property prices and rental rate. And here is where property fund managers can demonstrate the advantages of their expertise in terms of selecting properties which can withstand the vagaries of an uncertain economic climate.

A familiar mantra in property investment is that of “location, location, location” and it is clear from the number of fund launches in recent months that many view residential property in central London as having huge growth potential over and above the broader UK residential property market.

Like the rest of the UK, the central London property market took a drubbing amid last year’s financial turmoil, and while prices are recovering they still have some way to go before returning to pre-crisis levels. The latest figures from the UK Land Registry show that average property prices in central London rose by nearly 7 per cent over the third quarter, but they still lag some 6 per cent on Q3 2008 levels. Currently depressed prices and a consensus that a significant uptick is just around the corner mean that investors will have to move fast to capitalise on a recovery which many predict will see prices rebound dramatically in the near future.

London calling

Industry experts predict that central London will lead the way in the recovery of property prices. According to Martin Sherwood, director – head of tax efficient solutions at Smith & Williamson Investment Management, “all the stats point to prime central London recovering earlier than the rest of UK.” It is also worth noting that although central London property prices fell 15 per cent from peak to trough in 2008, at the same time UK commercial property prices fell some 32 per cent and the FTSE 100 plummeted by 43 per cent – figures which are a convincing testament to the relative resilience of central London property prices in the face of unprecedented economic trauma.

Central London is also noted for its low correlation to the wider national market, which, according to LCP’s Ms Heaton, “will continue to be dogged by economic problems for years to come.”

Several factors mark out central London as a special location for investment in residential property – one which is a specialist micro-market divorced from national trends. Despite the crisis London remains a world-leading financial centre and demand for housing from City workers remains correspondingly high.

As a truly international city London is also a popular location for second homes, attracting buyers and tenants from all over the world, and added to this the current weakness of sterling is also driving foreign investment. Coupled with this high demand is the fact that central London property is in short supply and this underpins both rental and capital values. These factors, according to Robert Guest, specialist funds and financial services lawyer at Beachcroft, mean that central London property should be regarded as a “unique asset class.”

A robust rental market

While several firms may be looking to capitalise on currently depressed property prices in central London, their approaches are markedly different. While Smith & Williamson and prominent property entrepreneurs Nick and Christian Candy have teamed up to launch a £100 million property fund focusing on luxury central London properties, LCP is taking a different tack, opting instead to concentrate on the professional rentals market.

LCP’s Residential Recovery Fund is, like the Candy Brothers fund, concentrating on London’s most prestigious postcodes, but rather than targeting the luxury sector will instead buy and renovate small flats designed for the corporate rental sector.
This market, according to Hugh Best, investment manager at LCP, has repeatedly proven to be the most robust, providing both strong capital appreciation and crucially consistent rental yields which service the gearing. Voids – or empty properties – are a notoriously costly hazard of property investment and in the view of Mr Best they represent a significant risk to funds investing in luxury properties.

“Our experience has shown that purchasing luxury property is not such a commercially viable strategy, generating lower yields, suffering from costly voids and in tougher economic times a scarcity of sufficiently affluent tenants,” he said. In contrast, occupancy in LCP’s managed property portfolio remained at 94 per cent throughout the credit crisis.

Maximising profitability

Richard Cotton, former senior partner responsible for residential sales and letting services at property investment and management firm Cluttons, is similarly sceptical of the London luxury property market. In his view, the top end luxury market is “a small one and should probably be left”, as should investment in the student and social housing markets.

The “single affluent” sector is the market with the greatest potential, according to Mr Cotton, as not only are these tenants reliable, but the costs of property refurbishment are more manageable as a commercial rather than luxurious finish is required. However, Mr Sherwood of Smith & Williamson remains convinced of the merits of luxury property investment in London, citing property research sources which predict a 40 per cent uplift in luxury property prices over the next five years.

He also highlights the fact that the Candy and Candy fund is targeting capital appreciation over rental yield and that there are many ways to foster this.., including structural enhancement to properties and adding value through high-end exclusive design. Along with currently depressed prices in the luxury property market the weakness of sterling is a further enticement to foreign investment, Mr Sherwood added, saying that now is “perhaps a unique opportunity to get into the prime central London market.”

Regardless of the target market, and whether capital appreciation or stable rental yields are prioritised, a large part of the job of property fund managers is to seek out the best-priced properties for their portfolio. According to Mr Sherwood, one of the keys to the successful management of residential property funds is cost control – and this of course starts with being able to hunt out properties at the best price in relation to their underlying value. Mr Sherwood also notes that the fact that there is a wealth of market information available on property prices does not necessarily limit the potential for bargains to be found, rather it depends on quality of the manager and their ability to “do the deals.”

Ms Heaton of LCP also emphasises the importance of specialist property expertise as another factor which can make property funds a better option than direct investment. “Bargains are not achieved by access to market data, but on the ground knowledge of the market. An eye for added value potential, a clear understanding of the tenant market, achievable rents, market yields and the costs of refurbishment will determine whether a property is a good buy, and indeed worth buying at all. Bargains are achieved by having all the right contacts and hearing about good property first,” she said.

Securing both good capital appreciation and consistent rental yields from a property portfolio is then no small order and so investors need to ensure that their chosen firm has the necessary expertise. As George Hankinson LCP’s managing director puts it, “Residential funds open up a huge new opportunity for investors wishing to access London central. However, investors need to be sure that their fund manager has a proven track record and is not simply jumping on the bandwagon of opportunism.”

That said, investors looking to capitalise on the potential of central London residential property will have to move fast before a price recovery really takes hold. LCP itself predicts that central London residential property prices are set to exceed pre-crisis levels in 2010 and in view of this fact the firm is due to close its Residential Recovery Fund at the end of December. “We think prices have bottomed out and are now really starting to boot upwards; liquidity is easing, and buyers will start to come back from here on in, but our fund will be there before them. Our investors are on board and we will have bought a prime portfolio before the spring market even picks up,” said Ms Heaton.

www.wealthbriefing.com

Financing, Tax and Returns

The London Recovery Fund is a tax efficient capital growth Fund enabling UK investors to hold it through their SIPPs and offshore investors to benefit from CGT and Inheritance Tax exemptions. It is geared at a phenomenal borrowing rate of just 1% over UK Base Rate*, a rate that most private investors could not possibly access. It is targeted to return 15% growth p.a. doubling an investor’s equity in just 5 years.


South African Solution

International Property Solutions (IPS) has strategically partnered with London Central Portfolio (LCP) to provide an effective solution to take advantage of the current conditions in the UK, specifically the best suburbs of London. With a very low entry point (£10 000), we buy discounted properties, renovate them and then let them out to Blue Chip corporate tenants in areas like Kensington, Chelsea, Belgravia, Notting Hill, etc

IPS provides solutions for people to invest internationally and are constantly looking for “Best of Breed” partners to strategically partner with so that investors can take advantage of great opportunities in prime markets.

Scott Picken, IPS CEO made his first money in London buying property, renovating and renting out the properties. He says, “I was so excited when we partnered with LCP as it provides the perfect solution for investing in London and best of all they have 20 years experience in some of the best real estate globally!”

IPS have been appointed the Head of South African Relations for the London Recovery Fund and will be monitoring the progress of acquisitions, refurbishment, rentals, etc, right through to the sale of the Fund in a few years’ time.

Download the Fund Quick Facts, contact scott@ipsinvest.com or visit www.ipsinvest.com or telephone Scott Picken on +27 (0) 11 463 0588 or +44 (0) 203 1399 018