Various events like financial crisis of 2008 followed by a double dip recession, highly volatile equity markets, lower interest rates and dwindling bond markets (due to sovereign debt crisis), renewed interest of investors in the UK (and around the world) to look for alternative sources of income generating investments. Ever since the financial crisis, investors are looking for safer haven for their investment which promises stability in the returns. According to Tuzel (2010), although most investors prefer volatility in the financial markets as a key source of income generation but the dividend and capital gain income proved limited liquidity (bird in hand) especially during times of crisis.
It is primarily due to instability in the financial markets that London, alone in UK, witnessed ??24 billion investments in the property market in the past 18 months. Out of the total investment in the London property market 64% i.e. more than half was driven by the overseas investors (BNP, 2014). Real estate was once a favoured investment of the high net worth (HNW) individuals, but with advancements in the financial market various investors through private or public pool of funds can access the property market through limited partnerships or real estate investments trusts (REIT’s). While the historical context can never be a precise indicator of what may happen in the future, it is instructive to study the contributions and optimal levels of inclusion that different investments have played in a return-maximizing portfolio in the past (Stevenson, 2013).
According to Riverside Capital Investors (2014) the past year has resurgence in the UK’s commercial market and would continue to show signs of sustained economic recovery. According to IPD, the net property returns accounted 10.52% in 2013, out of which commercial property indicated strong growth with ‘office property’ as the strong performer generating returns of 13.61% for the investors. In the process of recovery, consumer market confidence in major UK cities has improved. The property prices in London, Manchester, Edinburgh, Leeds and other South East cities grew by 4.3% in the last year (Credit Suisse, 2014). Recently Telegraph (2014) reported that global markets expect that the commercial property prices in the UK will generate double digit growth in 2014. Foreign institutional investors, especially Asian and European pension funds are exhibiting stronger interest in the UK’s property prices. One of the advantages that UK offers to international investors is that there is no tax on UK property capital gains for international investors. Furthermore, while calculating tax on rental income the interest on loan secured against property is deductible. Located at the centre of the world, UK can be a safe haven for investors, it however, also represents a unique blend of cultures that provides best of both worlds to an investor.
The coming sections of this report will divide the available funds of ??200m in different sectors of commercial property i.e. offices, industrial and retail. The rational for division of funds would be backed up by past returns generated by each sector of commercial property.
Objectives: The objectives of the investment report is to construct a real estate portfolio comprising the commercial property i.e. offices, industrial and retail market. Guardian (2013) reported that UK’s transparency index stood at 76% which is ranked 14th worldwide. Furthermore, given the buoyant property markets of the UK and favorable tax regime, various investors around the world are willing to invest in the UK. Hence, it is decided that this report will look only at the UK commercial property market. Understanding the risk averse policy, this report will look at safeguarding the investments and exposing them to minimum risks whilst ensuring maximum returns per unit of risk.
Assumption: There will be numerous assumptions that this report will make in order to recommend the invest strategy for the ??200m fund. These assumptions could be discussed as follows:
‘ First and foremost, the returns calculated and the resultant risk adjusted return would ignore effects of inflation and taxation.
‘ It will also be assumed that the fund of ??200m will not incur any interest rates (ignoring cost of capital).
‘ It is also assumed that the investment in property would not incur any additional costs due to stamp duty or any other agent charges.
UK Office Outlook
The annual GDP growth rate of Western Europe is expected to be 1.3%, although the number is not encouraging but the silver lining is that Europe’s office market has stabilised in the past few years and will continue to yield positive returns. Cushman & Wakefield (2013) expects that the rental market for the office spaces will rise for the year 2014 by 5% in major UK cities such as London, Birmingham and Manchester. According to Clutton (2014), the limited supply and increasing new start ups in the UK (predominantly due to rising unemployment) has led to increased demands of office spaces.
According to CBRE (2013), the South East region of England the total take up of office space reached 1.46 million square feet. This represents an increase of 20% compared to last year in 2012 and 7.1% increase as compared to the first quarter of 2013. Thames Valley also accounted for 61% of the entire take up of South East England in the year which was strong boost to the UK commercial office market. This fact is evident in exhibit 1 as shown below in the circle. The first part of exhibit 1 shows that London and its surrounding areas are exhibiting strong rental growth while other areas such Birmingham, Leeds and Bristol are just emerging out from a bottoming out to the growth.
Exhibit 1: UK Office Rental Forecast & Average Returns (Jones Lang LaSalle, 2013)
GVA (2013) suggests that recent growth in employment especially in the office based sectors,
According to GVA (2013) recent employment growth, particularly in office based sectors, implies that
the economic fundamentals behind property demand will improve this year and next, albeit slowly.
For the regional office market we expect only minimal average rental value growth this year (+0.5%),
rising to 1.5% in 2014 and 2.9% pa by 2017 (O’Keeffe 2013)
Jones Lang LaSalle (2013) predicts that due to rising unemployment, more and more professionals are registering their businesses for self employment. It is hence that demand for offices is expected to rise in coming five years. Although it will be difficult to achieve pre 2008 returns, but for new investors it can be promising investment.
BNP (2014). Investing In London – 2013. Available: http://www.realestate.bnpparibas.co.uk/upload/docs/application/pdf/2013-10/investing_in_london_guide_2013_bnp_paribas_real_estate_uk.pdf. Last accessed 21/03/2014.
Cushman & Wakefield. (2013). Global Office Forecast. Available: file:///C:/Users/hp/Downloads/CW_Global%20Office%20Forecast_2014-2015.pdf. Last accessed 24/03/2014.
Credit Suisse. (2014). Investment Returns Yearbook. Available: http://www.credit-suisse.com/investment_banking/doc/cs_global_investment_returns_yearbook.pdf. Last accessed 22/03/2014.
Guardian (2013). 2013 global corruption barometer ‘ get the data. Available: http://www.theguardian.com/global-development/datablog/2013/jul/09/2013-global-corruption-barometer-data. Last accessed 23/03/2014.
Jones Lang LaSalle. (2013). Revival in Regional Office Market .Available: http://www.jll.co.uk/united-kingdom/en-gb/Research/UK%20Office%20Market%20Report%20Q4%202013.pdf?674f8798-0166-43e0-93f0-2d2a8ef01bdf. Last accessed 22/03/2014.
Riverside Capital. (2014). Regional Recovery: The Spread of Economic Growth. Available: http://www.rivercap.co.uk/wp-content/uploads/Regional-Recovery-The-Spread-of-Economic-Growth.pdf. Last accessed 23.03.2014.
Stevenson, S. (2013). The Global Real Estate Investment Trust Market: Development and Growth. In Real Estate Investment Trusts in Europe (pp. 17-25). Springer Berlin Heidelberg.
Telegraph. (2014). Commercial property will offer ‘double-digit returns’ in 2014.Available: http://www.telegraph.co.uk/finance/personalfinance/investing/10561689/Commercial-property-will-offer-double-digit-returns-tips-for-2014.html. Last accessed 25.03.2014.
Tuzel, S. (2010). Corporate real estate holdings and the cross-section of stock returns. Review of Financial Studies, 23(6), 2268-2302.