Is commercial property on the comeback trail?
David Prosser explores the best ways to capitalise on a potential property rebound.
Whisper it quietly, but the commercial property sector may finally be returning to form, providing opportunities for advisers and their clients to buy into bombed out assets at cut-price valuations. Shares in UK commercial property companies delivered their best monthly returns relative to the rest of the stock market in almost 15 years last month.
Recovery has certainly been a long time coming. Trends such as the work-from-home phenomenon and the ecommerce revolution have been hugely damaging to sub-sectors of commercial property, such as offices and retail. Rising interest rates have hit the entire market. Total returns from commercial property – income and capital combined – plunged into negative territory last year.
Against this backdrop, what should give investors optimism? Well, first, there is the macro picture: interest rate cuts from the Bank of England are coming sooner or later, and economic growth is now beginning to accelerate. That provides the supportive environment that commercial property needs to thrive.
“Investment trusts, remember, are by far and away the best option for those going into property via a collective fund. The closed-ended structure provides protection from the liquidity crunches that have been such a regular feature of property investment. It’s just the sort of reassurance investors need as they consider returning to the sector.”
David Prosser
Indeed, the Royal Institution of Chartered Surveyors says tenant demand rose 4% during the first quarter of the year, and its members are now expecting to see rents rise over the course of 2024.
In addition, it is now possible to make a case for many sub-sectors of the property industry. In offices, for example, the amount of available space has reduced as landlords have repurposed buildings. Moreover, remote working seems to be receding from its peak, with growing numbers of companies demanding that staff return to the office for some or all of the working week.
In the industrial sector, economic expansion should stimulate demand for assets such as manufacturing sites. Logistics assets are also in demand as organisations work ever harder to resolve the last-mile delivery challenge in ecommerce fulfilment.
Retail property is harder to get excited about – particularly given the structural headwinds ecommerce poses to the high street – but even here there are now more bright spots. For example, retailers are repositioning themselves for this new world by taking smaller properties in town centres and larger units in out-of-town retail parks. Planning reforms, particularly around Class E property, are also helpful.
The other point here is that so much of the commercial property sector looks remarkably cheap. Shares in shopping centre owner Hammerson currently trade at a 44% discount to the value if its assets; office specialist Great Portland Estates is on a discount of almost 30%. Other well-known property companies are trading on similar valuations.
This is not to predict an industry-wide resurgence or an overnight recovery. It’s clear that some parts of the sector still face significant challenges. The office sector in London, for example, is improving fast; elsewhere not so much. Some analysts think the spike seen in the logistics sector following the Covid-19 pandemic has removed value there.
Nevertheless, the mood around commercial property in the UK suddenly feels brighter than it has for some time. “The market is throwing up a selection of opportunities,” said Numis analyst Andrew Rees in a recent note. “You can sense the pent-up demand on the sidelines,” added Emma Bird of Winterflood Securities.
Moreover, for advisers and investors who buy exposure to the sector through an investment trust, there is the added allure of discounted valuations here too. Shares in the average UK Commercial Property investment trust currently trade at a discount to the value of its underlying assets of close to 25%.
Investment trusts, remember, are by far and away the best option for those going into property via a collective fund. The closed-ended structure provides protection from the liquidity crunches that have been such a regular feature of property investment. It’s just the sort of reassurance investors need as they consider returning to the sector.
David Prosser
David is former Business Editor of The Independent, Personal Finance Editor of the Daily Express, and Deputy Editor of Money Observer magazine. He writes regularly for the AIC.
