Feel like shopping today? No, nor do I.
My finances are just fine. I don’t have a mortgage (we rent), I’ve got plenty of savings, my outgoings are smaller than my income, my job is fairly secure and I’ve sold out of most of my stock market-related investments.
So, all in all, I’m not really at any risk. But I’m still not feeling much like spending.
The US house price crash is not bottoming out but gaining pace. The credit crunch is clearly hitting the real economy (earnings at companies listed in the S&P 500 index fell at an annual rate of 8% in the third quarter) while consumer confidence is at a two-year low. There is clearly a recession on the way (maybe it’s already here – these things are only obvious in retrospect).
It’s just as miserable here. House prices are finally falling (Nationwide numbers showed a 0.8% dip for November), and even in London prices went down 0.6% in October, despite the insistence from the bulls that the prime market is immune from the credit crunch.
Worse, given that it is a good predictor of bad times to come, the volume of new mortgage approvals is at its lowest for nearly three years. Then there is the way the crunch is hitting the personal loan and credit-card markets. The most recent round-up from Moneyfacts tells us that not only are the rates on personal loans still rising but the number of unsecured loan providers has fallen 10% in the last month or so. It’s getting harder and more expensive to borrow.
The sectors to avoid
Makes you feel like turning the heating down a notch and staying home in front of the telly with a baked potato rather than rushing out to Oxford Street, doesn’t it? This is horrible news for retailers. And they know it. Several (Signet and Currys owner DSG being the most obvious) have already warned on profits. Others have started issuing panic discount vouchers again. I’ve already received them for Gap (30%), Threshers (40%) and Selfridges (20%).
I don’t suppose anyone would be stupid enough to rush out and buy much in the way of retail stocks at the moment but there is another less obvious victim of the consumer trauma that I suspect should also be avoided: the commercial property sector. I last wrote about this here early last year when I suggested we should all sell out immediately.
No-one agreed with me and for a short time they were right. The sector attracted more money than any other in 2006 and total returns (capital gains plus yields) for the year came in at about 18% just as they had in 2004 and 2005. Whoops.
However, this year anyone who took my advice might feel a bit better about it. Total returns fell 1.9% in October and are down 2.6% over the last three months. Most analysts suggest that over the full year anyone in a commercial property fund will be lucky to break even. This will be the first year in 15 that returns from commercial property come in negative. This all makes perfect sense (to me at least).
Commercial property is 100% geared to the state of consumer confidence and the economy. When times are good, people want to rent shops, offices and warehouses and they’ll pay increasingly high rents to be allowed to do so.
In bad times – like the ones we’re about to see – they will not. Retailers are clearly not going to be in expansion mood for some time. There’s no shortage of office space even in the City and the government is out of the cash it needs to continue the manic hiring sprees of the past few years. If there were any shortage of supply in the market, rents would have been rising and yields – which show rent as a proportion of the property price – would look reasonable. But they don’t: they remain well below Bank rate at about 4%.
Why it’s hard to get out of commercial property funds
The fact is that, like so many other markets, commercial property has been reflecting not solid supply and demand fundamentals but a bubble driven by the availability of cheap credit. Prices are now too high and yields too low and for the market to get itself back in balance prices either have to keep falling or rents have to rise.
I can’t see how rents can rise so it looks very much like prices are going to keep falling. The fund managers who lured retail investors into their funds last year are well aware of this.
That’s why they’ve started making it harder to take money out of their funds. Both Schroders and M&G have had to temporarily lock in institutional investors as they haven’t the cash to pay for their units to be redeemed and, given the state of the market, they can’t sell any of their assets fast. Looks like property isn’t a one-way bet after all.
So what do you do? If you’re invested in a commercial property fund and you can get out immediately (small retail investors can do this where institutional investors cannot) I think you should do so.
Next, you should make sure that you don’t let anyone convince you that there is currently a buying opportunity in the shares of, say, Land Securities (LAND) (down 36% this year) or in any of the real-estate investment trusts. There isn’t. Capital Economics thinks commercial property prices will be down another 10% by the end of next year and so do I: the bottom of this cycle– and the buying opportunities – are still a long way off.
First published in The Sunday Times 2/12/07