Gold medal

Gold is not an investment. Ok I appreciate that this is meant to be an article about property investments, but allow me to set the scene. When gold is purchased as an investment, there’s nothing that one can do to improve the value of it, the price you can achieve by liquidating is purely and simply determined by the market forces at the time. Essentially, therefore, investment in gold is a gamble that the value will rise rather than fall and that when you want to liquidate it someone will be prepared to pay you more for it than you paid initially. That’s it.

Market forces
So, what does this have to do with property investment? Well, there is an argument which puts ‘dry’ property investments into a similar category. Take for example a new build, single let Tesco, new 15 year lease with RPI linked reviews every five years, collar and capped. There’s not an awful lot that you can do to the asset, you can’t extend it, re-gear the lease or let any vacant space, therefore you’re only capital appreciation will come as a result of market forces leading someone else to pay you more than your initial purchase price for the asset.

Ok, accepted that unlike gold, the Tesco investment will at least be giving an income, but the capital appreciation only comes in the same way – market forces rather than investor input (or asset management as we prefer to call it).

Arguably, many single let or 100 percent let properties can fall into this category, especially where there is a long period left on the leases, in that there may only be limited things which one can do with the property. Generally it follows that more tenants in a property, the more ‘lease events’ there are (breaks, reviews and terminations etc) and therefore the closer the asset becomes to a ‘real’ property investment.

However with these lease events comes risk and with risk comes reward, or return if you prefer, and this is where there is disparity in the market at the moment.

Indeed, many seasoned property investors are currently seeking properties which have a big asset management angle, whether it’s in terms of vacant space which they feel they can let, or perhaps leases coming to an end where they feel that they can either persuade the existing tenant to remain in situ or can replace them with one of an equal or better covenant. One of the biggest requirements that we currently have from investors are for well located office properties in the centre of London which are circa 50 percent vacant.

This allows the investor to potentially take some bank finance against the secure income (albeit typically post acquisition finance secured under fairly robust terms) but also to work the asset into something which produces additional income and has longer unexpired terms. Some investment companies are then selling on these improved assets, others are transferring them into other longer-term income funds within their overall portfolio.

Logical investments
Recent sale results are showing that these dry investments in supermarkets are currently delivering returns in the region of 5.50 percent to 5.75 percent depending on the lease term (see Singer Vielle’s sale of a Tesco Express in East Sussex with 13 years remaining at £1.15m, showing a NIY of 5.75 percent or their sale of a Somerfield in Hull with 27 years remaining at £5.11m at 5.50 percent NIY).

Equally, investments in high street banks are also proving very popular, with Allsop’s February 2011 Auction showing bank yields also in the region of five percent, a small Lloyds Bank in Middlesex sold for £550,000 reflecting 4.91 percent gross initial yield with 10 years remaining on the lease. This demonstrates the demand for straightforward investments among investors at this level, especially when compared with the slightly larger ticket, but similar investment of the Lloyds in Streatham in the same auction with the same length lease which sold for £1.42m reflecting 5.77 percent gross.

A number of high net worth individuals are currently using Devono to search for these dry investments, as they are seen as more stable than equities and easier to manage than the higher yielding properties. For some these investments do provide a good ‘first step’ into property investment, and you can see the attraction when compared to the returns which are currently available from most savings accounts, however it will be interesting to see the value of these assets in 10 years time when the leases are coming to an end.  Whether these less experienced landlords will be able to negotiate lease extensions prior to the end of the term, and whether the retailer or bank will actually want to extend at that time will both be questions to be answered.

At MIPIM in March 2008 one investment manager from a listed firm said to me: “frankly, any imbecile could have made money from property over the last few years… (2004-2007) and at least now [that the flow of securitised funds has stopped] some of these should fall away to leave it to the professionals”. One wonders whether we are now seeing the next wave of naïve investors coming in to property.

For the braver investors, sales of office properties with some vacancy are achieving returns of closer to eight percent or nine percent, with some investors pushing for a 10 percent return when they’re able to combine it with a quick cash purchase.

Indeed there is a property in SE1 that was recently auctioned which had significant vacancy but was well located so could provide an investor with double digit returns if they’re able to let the vacant space.

Ultimately, for certain investors I believe that a Tesco or Lloyds Bank at the mid five percent range is a good investment when compared to other asset classes (clearly dependant on location, rent paid etc, etc), however the investor must continue to review the market and their situation regularly; potentially being prepared to exit the investment in five to ten years while there is still something meaningful left on the lease. Complacency is not an option.

For an experienced property investor though, with an established asset management team – take the vacancy and work it. It’s 100 percent about asset selection and that’s where the great investment managers will differentiate themselves from the remainder of the pack.