Why property will outperform bonds

Why property will outperform bonds
 Aidan Crawley/Bloomberg

The final terms of Brexit might not be known for some time, but markets have quickly adjusted to the new reality.

Interest rates appear set to stay low for some time to come, so investors are looking to UK commercial property, which offers a steady and reliable income yield over the long term. Between 2000 and 2017, income formed the core component of total return for property investors, delivering 74 per cent of the Investment Property Databank monthly index total return.

At a time when equity markets are reaching historic highs, property gives investors important diversification. It also offers an illiquidity premium to investors.

The UK commercial property market is in a fundamentally strong position with low overall vacancy rates. In the wake of the Brexit vote, there is muted development around the UK. The City is an exception to the rule, because the lead time for the planning process is so long that many of the buildings rising out of the ground now were started before the Brexit referendum was announced.

Even the June 2017 general election, which resulted in a hung parliament, has not interrupted the property market’s trajectory. Valuations are up across all property sectors.

The weak pound makes investing in UK property especially appealing to overseas investors. A little over a month after the general election, the record-breaking £1.3bn sale of London’s iconic Walkie Talkie skyscraper to Hong Kong investors boosted confidence.

Britain is evolving in the wake of the vote to leave the EU. In today’s uncertain environment, carefully selecting opportunities that match demand is more important than ever before.

At present, vacancy rates are low. There is strong demand for the right property, at the right time, at the right rent.

In the first quarter of 2017 there were many events approaching with the potential to disrupt the market. The general election was scheduled and Brexit negotiations were starting to take place. Prudent investment managers therefore built up high cash reserves.

Tenants are taking a similar approach – playing it safe when renting commercial space. They are generally looking for smaller premises of less than 15,000 square feet, making larger properties harder to let.

Key Points

  • The UK commercial property market is in a fundamentally strong position.
  • Commercial properties outside expensive central London are a promising investment.
  • Warehouse storage and distribution facilities are much in demand due to internet shopping.

Smaller occupiers also tend to be more domestically focused in their business. They are therefore possibly less affected when it comes to Brexit. As ever, it will be important for fund managers to align their portfolios with demand from investors.

Several specific areas and types of property are set to perform well in the current environment.

Investing in ‘trophy’ assets  – such as landmark buildings – at the keenest yields is a risky business, as often there is little room to add value and a building’s condition will only deteriorate over time. Often these buildings are let at the highest rates, meaning rental value growth is hard to achieve. Instead, savvy investors are travelling the UK in search of opportunities to add value and rental growth.