Reviving commercial property stocks?

Chris Hossain

Chris Hossain, Senior Sales Manager at ODL Securities gives us a risk assessment of commercial property investment, walking with caution may be more astute than walking unafraid but volatility isn't necessarily bad

Banking aside, no sector has encapsulated the weakness of the global economy more than commercial property. As the credit crunch has gripped London, commercial property stocks have been hit as hard as any, but as some commentators start to wander if we are reaching a pivotal point in this downturn, will the embattled sector be one of the first to rally?

As with any study, to get a feel for the future, one first needs to understand the past. We are going to explore whether the sector is one to be dipping in to, or is it still to be avoided? Is the trend really your friend in this scenario, or does it pay to be a contrarian and potentially ahead of the curve?

Harking back to the balmy days of 2007 when the term ‘credit crunch’ had not become part of ones daily vocabulary, investors were pouring money in to vehicles, such as Unit Trusts, that invested directly in to commercial property. A recent report estimated that private investors pumped in approximately £8bn in to commercial property funds between 2005 and 2007. All looked rosy, but then came the fall, and it was spectacular… from its peak in May 2007 to the end of 2008, the MSCI World Real Estate Index fell 47 percent, meaning that a five year investment would be running at a loss – it brings to mind the old adage that ‘a long term trade is just a short term trade gone wrong’.

Is now the time to start revisiting the embattled sector?
We’re all familiar with the global downturn, but key to making money from trading is to get a feel for what is going to happen, as opposed to using hindsight to hypothesise on past events. The commercial property sector was hit earlier than most, so theoretically it could be one of the sectors to rebound first. Renowned Fund Manger Anthony Bolton, of Fidelity fame, has been vocal in his support of investing in to commercial property. With yields in and around seven percent, Bolton argues that investing directly in to commercial property is attractive when compared to holding cash.

The major commercial property stocks have been hit hard over the past 52 weeks. Stock prices (correct at the time of print) are reported to have hit their lowest point, but they still have a long way to go before they can challenge their 52 week highs. I guess the question one needs to ask is whether they are currently undervalued, or were the prices from a year ago simply inflated?

Why invest now?
Over the past few weeks, a number of the largest commercial property stocks have raised funds via deeply discounted rights issues. British Land has raised £740m, and Land Securities (£755m), Hammerson (£584m) and Segro (£500m) have followed suit. It is widely expected that Brixton Estates may need to tap investors for £250m in the near future. The very fact that they have managed to get a fully subscribed rights issue away, albeit at deeply discounted rates, shows that investors still have a healthy appetite for the sector.

In the background, one also has to consider whether the sector could attract some mergers and acquisitions interest? There has been press speculation that the Norwegian Sovereign Wealth funds have been eyeing up prospective UK assets, and one can never rule out investment from the Middle East. Indeed, such may be the pressure on these individual stocks, they may be forced to join forces and take advantages of cost-saving synergies.

Is it too early to dip your toe in?
Moodys, the credit ratings agency, believe that underlying commercial property is due to fall by as much as 25 percent in 2009, making it a 45 percent fall from the 2007 peaks. If this were to happen, there would be a clear impact on commercial property stocks. In spite of their recent fund raising, some may still be forced to sell assets to pay down debt.

Whilst it can be deemed positive that the firms have been able to raise capital, one has to look a bit deeper to fully understand why they have had to raise funds in the first place. Land Securities have raised cash to protect themselves against a further collapse in the property sector. Whilst this may sustain them and help them reap rewards from a potential upturn, one has to consider what will happen if this recession is longer and deeper than anyone has anticipated?

Hammerson looked to the capital markets to raise funds because it was taking longer than anticipated for buyers to raise funds to take some of their assets off their hands. There was a risk of them breaching their banking covenants – this is hardly the most encouraging of backgrounds to jump in both feet first.

Whilst the yield on underlying commercial property may be attractive in Bolton’s opinion, it is unrealistic to believe that all of the commercial property stocks will be able to maintain paying out dividends as per the last few years. Therefore you have the risk of diminishing income, and the risk of a capital loss on your investment.

So what should I do?
All investments carry with them a degree of risk. Property stocks have been volatile, so it isn’t a sector that should be entered lightly. As with any investment, doing your own research is vitally important. If and when the good times return, one has to assume that the strongest will come out on top.

As with all investments, the use of stop losses can reduce the amount of risk you are exposed to. Indeed, the use of derivatives can give you both long and short exposure, allowing you to (hopefully) make money in both directions. Looking further afield, if you are averse to picking a single stock, the use of ETFs and Unit Trusts could give you a broader exposure.
One thing is for sure, the commercial property sector is likely to be volatile in 2009. Volatility brings with it both risks and rewards, so tread carefully.


For more information,
Contact Sanjay Mistry on 07810 368 772 or email sanjay@prlimited.co.uk or Damien Francis at ODL Securities on 07966 477 281 or dfrancis@odls.com.