UK Property Market: Are funds the answer?

By Joe McTaggart
July 2009

UK Property Market: Are funds the answer?
Research by comparison site Moneysupermarket.com revealed that inquiries for buy-to-let mortgages have increased by nearly 50% since August 2008. However the number of available mortgage products fell by more than 70%.

Although there is a growing number of investors looking to take advantage of the market, many are unable to meet the 130% increase in deposit required by lenders.

In this edition we ask are property funds the answer?

Economic overview
In our last issue we discussed "green shoots" appearing in the economy and while some commentators remain bearish, the shoots appear to have taken root.

Evidence of this comes from our European neighbours France and Germany whose economies grew by 0.3% between April and June. The end of recession has been attributed to a combination of stronger exports, increased consumer spending and government stimulus packages.

While the UK recession has yet to officially end, business confidence has risen to its highest level since the start of the financial crisis with the Institute of Chartered Accountants (ICA) saying the "Recession was at an end". This view is supported by revised figures from the Office of National Statistics (ONS) showing that the UK economy had performed better than expected.

Further evidence of the recovery can be seen in the performance of the FTSE 100. It is in the midst of its best summer rally since its launch in 1984 and is currently trading at levels not seen since last October. Tracked over the past six months the growth in the FTSE has been phenomenal, with a 40% increase from this year's low.Q3 has continued to show positive returns with an increase of an estimated 15.7% taking it close to the psychological 5000 point barrier.

While unemployment is still rising and has hit 2.4 million, its highest level since 1995, a recent survey by KPMG Business noted that the UK's manufacturing firms posted the most positive outlooks for activity, revenues, new orders, profits and employment.

Property market overview
The property market has joined the resurgent stock market with London and the South East re-bounding aggressively. The Nationwide house price index showed that the housing market bounce extended into August with prices increasing by a further 1.6%.

The latest figures from the Land Registry confirm this growth, with all regions experiencing a positive monthly change in their average property values. The July increase of 1.7% in England and Wales is the strongest monthly growth since July 2004 and the third month on month increase.

Research from Hamptons International has put the number of buyers per property at nine to one, a ratio that the agent said it had not seen since the boom of 2006 and 2007. Sealed bids are not uncommon with Gazundering (the practice of reducing the offer price on the day of exchange) being replaced with Gazumping as buyers fight over the limited amount of stock available in the market.

The construction industry is also in positive mood with Persimmon becoming the first major house builder to write up the value of its land bank by �28 million, following a huge �680 million write down in 2008.

Is this a sustained recovery?
Before we get carried away with the rebound it is important to incorporate actual sales volumes in order to create true context. The latest Land Registry figures, May 09, showed volumes had fallen in London by 70% against May 08 with only 4,573 homes sold, and down an astonishing 255% on the 2007 peak of 16,221.

We believe the reason for the rapid recovery in the housing market is down to the lack of available property. Research by Knight Frank shows that compared with this time last year, the number of properties available is down 32% in London and 31% in the southeast. The Northeast, Northwest and East Anglia have fared worse falling by almost half.

The low numbers of new build properties has further constrained supply as house builders have postponed new sites and slowed the build of existing developments.

We anticipate that prices will ease as stock levels increase to meet demand, in fact the market could dip if flooded with property. Potential sources include the large number of "forced landlords" who at the end of 2008 were unwilling or unable to sell at low prices. As rental contracts come to an end, it is likely they will take the opportunity to sell up at today�s prices rather than hold on for another 6-12 months.

Another source is repossessed properties in the hands of the banks, who up until now have held back from dumping stock onto the market. This is in contrast to US banks who have adopted a fire sale approach, aggressively repossessing and disposing of their property assets. Ultimately UK banks are not in the business of being landlords therefore will seek to remove properties from their balance sheets.

Finance
The medium to long term prospects for the housing market are healthy and interest from investors has improved. Recent research from Mintel found that a third of adults believe now is a good time to invest in property and more than half believe property is a good long-term bet, despite the recent crash.

The new financial landscape presents investors with a number of challenges, the most difficult being the availability of credit.

While new data from the Council of Mortgage Lenders (CML) shows further signs of stabilisation in the mortgage market,

transaction levels are significantly down. Overall gross mortgage lending was an estimated £16 billion in July, a 26% increase from £12.7 billion in June but down 36% from £24.9 billion in July 2008. However buy to let lending was down 4% in the second quarter of 2009 with 21,600 new loans with a gross value of £1.9 billion. This was 5.6% of total gross mortgage lending which is half of the 2008 figures of 11.9%.

Heavily reliant on wholesale funding there are now fewer active lenders in the private rental market with less money to lend. This is evident by the current range of products which require 40% deposit compared to 10% deposits offered at the height of the market.

Despite average prices in the Capital falling by just under £50,000 to £307,000 the deposit required for a buy-to-let mortgage has increased by 130% from £53,390 to £122,800. Investors with sufficient equity are in the driving seat to benefit from potentially large returns.

If you don't find yourself in this position, are there any other ways of taking advantage of the UK property market?

An increasingly popular way of investing is through a property fund.

Residential Property Funds
A fund, also known as a collective investment scheme is where a group of investors 'pool' their assets and have these professionally managed by an independent manager.

By investing in a fund investors are able to reduce risk by spreading their investments more widely than may have been possible if they were investing in the assets directly. The reduction in risk is achieved by diversifying in a number of different properties, types and locations.

In the UK residential funds tend to be in one of two structures;

* Open Ended with shares listed on an exchange which in principle can be traded to provide liquidity. They do not have a defined end date
* Closed Ended funds which have a limited number of shares and a defined existence, usually 3-7years. They can also be traded on an exchange.

Investors choose property funds over direct property investment for the following reasons:

* A property investment fund provides access to the expertise of the fund manager
* Greater diversification of risk and exposure within that particular asset class, compared with investing directly into a specific property
* Access to investment opportunities that would not otherwise be available to many investors. For example it would be difficult to gain exposure to the London property market directly with a minimum investment of, say, £25,000.
* By aggregating the investments of participants a property investment fund will have greater capital, and as a result can achieve economies of scale and secure better borrowing terms than individual investors.
* Less administration
* The asset manger handles the research, acquisition, property management and disposal.
* Pension investors can typically invest in residential property using their SIPP or SSAS

What to look for when selecting a fund?
* Relevant sector experience of the asset manager
* Is the fund audited?
* How often is the fund valued and by whom?
* Is the asset manager investing alongside you?
* Is the investment vechicle tax transparent?
* Where is the fund domiciled?
* Is it regulated and if so by whom?