Property funds are back in the spotlight following the ructions at M&G, which will prompt many investors to switch out of open-ended funds into real estate investment trusts (Reits). The fuss over the liquidity problems and structural flaws of open-ended funds has, however, slightly obscured the bigger picture: what is the outlook for commercial property?
The market is widely considered to be in the later stages of a long upswing, with valuations looking a bit overextended for key niches such as high-quality London offices. There’s also a structural debate about areas such as retail parks, which are under strain from the e-commerce assault; the M&G fund was reportedly close to 50% invested in retail assets, many of which are increasingly difficult to sell.
A boost from Boris
That said, yields for many quality property assets are attractive in a low interest-rate environment. I think Simon Elliott, who runs fund research at Winterflood Securities, a broker, is probably on the ball when he argues that in “commercial property, returns in the short to medium term are expected to be driven by income rather than positive capital revaluations. The asset class faces a number of headwinds at present, particularly in the retail sector, which is seeing a structural decline. In addition, demand for office and industrial premises will be affected by the economic impact of Brexit on the UK economy. However… commercial property remains an attractive long-term asset class, given the levels of yield available, which are backed by revenue streams that should increase with inflation”.
My own sense is that investors might want to follow Simon Elliott’s advice and stick with the many niches within the property spectrum. The Conservative victory in the general election will certainly have helped boost sentiment and I think we’ll see many more domestic businesses look to make office and industrial moves now that we have more certainty. Foreign investors might continue to invest in prestige properties, but my sense is that sterling’s recent rise might take the edge off this market.
We might see the sharpest rally in regional markets, which have been relatively subdued (in valuation and yield terms) compared with the big London office market. That should help specialist operators such as the Regional REIT (LSE: RGL), which currently trades at a 3.3% discount to net asset value (NAV) and yields 7.4%. This fund’s focus could come in handy as the domestic economy bounces back after the general election and Brexit.
Eye up social housing
The social-housing sector might also stage a rebound as the Johnson government steps up spending on social housing. Civitas Social Housing (LSE: CSH) currently trades at a chunky 18% discount to NAV, which could tighten a bit and is yielding 5.7%. I’d also look again at Residential Secure Income (LSE: RESI), which is on a 12% discount to NAV. Sticking with potential policy changes, my sense is that a Conservative government might give investors in leaseholds an easier time. That could help the Ground Rents Income fund (LSE: GRIO), which has had a terrible few years. It currently trades at a 21% discount to NAV and offers a 4.3% yield.
Last but by no means least, while UK property may be at a late stage in the cycle, my sense is that many continental European markets are at a slightly earlier point in the cycle and might benefit if the eurozone economy does somehow manage to pick up speed in 2020. In this context the Schroders European Reit (LSE: SERE) might be worthy of further research. The trust’s discount has tightened considerably, but it is still at 0.5% and there is a 5% yield.
Activist watch
Dutch activist fund Follow This has filed shareholder resolutions at Exxon, Chevron, and Shell’s annual meetings for the first time, says Laura Hurst on Bloomberg. The motions ask the companies to align their plans with the Paris climate accord. The fund has previously done the same in Europe, pressuring major oil companies to take action on climate change. Follow This’s resolutions have so far been defeated, but the group believes change comes from “a small number of progressive investors, not the majority”, says head of the company Mark van Baal. They have already been joined by Dutch insurer Aegon and M&G Investments. Chevron says it has already set up emission reduction goals for various forms of fuel.
Short positions… trusts that have stood the test of time
• Survivors of two World Wars, ”the Great Depression, the Great Recession, the dotcom bubble, and the tech boom”, these trusts seem a reliable investment, says Mike Atherton in The Times. The Foreign & Colonial investment trust has been running since 1868 when it began putting money into government bonds. Now, over half its money is invested in the US, with holdings in Apple, Alphabet and Facebook. Scottish American was formed in 1873 to invest in US railroad bonds after the Civil War gave the economy a boost. It has stakes in Procter & Gamble and Deutsche Börse. The BlackRock Smaller Companies trust was set up in 1906.
It focuses on small and mid-cap companies and “has an impressive record of strong dividend growth”. City of London started as a brewery company in 1891 and turned into an investment trust in 1932 when proceeds from the brewery’s sales were invested in the stock exchange. Top holdings include Diageo and Unilever.
• Neil Woodford’s protégé Mark Barnett’s Invesco funds suffered their biggest withdrawal in over five years this past November, says Daniel Grote on Citywire. Investors pulled out £450m after fund platform and analysis group Morningstar downgraded the funds owing to liquidity concerns. Investors withdrew around £318m from Invesco High Income fund, Barnett’s largest, and £125m from the Invesco Income fund. The funds now stand at £5.7bn and £2.6bn respectively.