Alternative investment routes into bricks and mortar

Cherry Reynard looks at various ways to invest in residential property that don’t involve direct ownership, such as bonds, peer to peer and funds

When property investment delivered giddy returns, it was worth the hassle of awkward tenants, slimy estate agents, or fickle buyers and sellers. However, as the housing market has slowed and those returns have ebbed, the allure of bricks and mortar has waned. Dealing with builders has little appeal for low or negative returns.

One option would be to abandon it altogether. The problem is that residential property exerts a FOMO (fear of missing out) effect. Investors may be rightly concerned the market will lurch higher and leave home ownership even more elusive.

- How buy-to-let investors can protect their profits 

Alternative approaches to property exposure can solve this problem, albeit imperfectly. Such approaches can ensure that an individual’s investment rises and falls with the housing market, thereby providing a ‘hedge’ for those looking to buy property in the longer term. This type of investment can have other advantages too – it may provide an income, for example, or diversification away from a portfolio of shares, bonds and commercial property, as well as easier, lower-level access to buy-to-let investments.

Property bonds

Financial services companies have not been blind to people’s love affair with property – witness, for instance, the launch of property bonds such as easyMoney’s Easy Isa or the Wellesley Property Bond. The Blackmore offering is typical – it features three, four and five-year bonds, paying 6.5, 7.5 and 8.5 per cent. The returns aren’t guaranteed but are linked to a series of construction projects, including a 20-apartment block in Stratford and a church conversion in Cheadle Heath. Most are run by established property developers and the bonds provide them with easier and more flexible financing than they would get with a bank.

- Call for further tax crackdown on buy-to-let landlords

There are some problems. Property bonds are not covered by the Financial Services Compensation Scheme and, while they are sold as providing steady-eddie fixed rate returns, they involve investors taking a risk on the underlying building projects. Anyone who has undertaken a building project will attest to the difficulties that can entail, even for professionals. Of course, these groups aren’t putting money on people’s extensions, but it means that investors should be making a decision about the strength and skill of the property developers to whom the loans are made.

It also means that investors need to be paid appropriately for the risk. The Easy Isa pays a 4.05 per cent income to individuals lending money to property developers. Investors take the risk of a loan defaulting, and also the risk of not being able to recover capital from land/property sales if the loan does default. As a benchmark, shares in Land Securities, which owns properties as diverse as the Dominion Theatre and One New Change in the City of London, pay a near-5 per cent dividend.

- What will Brexit mean for UK residential property?

Patrick Connolly, certified financial planner at Chase de Vere, says there is a real danger that investors don’t fully appreciate the risks they’re taking, especially if they consider property investments to be safe and secure. ‘Investing in a single development or company, whether that is buying shares, bonds or property, is a high-risk approach, especially if the money represents a significant proportion of your overall investments,’ he says.

‘There are also potential liquidity risks, especially as these bonds aren’t actively traded. This means that you will struggle to access your money until your bond matures, and even then it may rely on the bond provider being able to sell the properties at an acceptable price. ‘For most people, the extra risks involved in buying property bonds, together with the lack of protection, mean that they aren’t suitable, and where they are used it should only be for a very small proportion of an overall portfolio.’_ The key is to make sure the property developer is sound, the income is high enough to compensate for the risk, and the capital is secured against the underlying assets.

Peer-to-peer lending

Property platforms marry investors with property developers. Investors choose who they lend to and at what price. Instead of buying a basket of property developments, as they might with a property bond, investors can be more selective. If they want to confine their search to, say, Birmingham, they can do so. This may be good or bad, depending on their knowledge of the property market.

- Peer-to-peer Isa: a beginner's guide

Established platforms such as Lendinvest sit alongside a number of new entrants. The more established platforms have lent more (over £1 billion in Lendinvest’s case), should be able to attract the better developers and should also be in a position to work with better underwriting teams and analysts who, in theory, are able to make more robust lending decisions. While everyone has to start somewhere, investors may find that experience of picking win­ners is important in this part of the market.

- Should savers be seduced by peer-to-peer’s strong returns?

Rod Lockhart, managing director of Capital Markets at Lendinvest, says: ‘People can pick and choose on our platform, looking at areas where they have high conviction. People can start with loans of £100, so they can build a diverse portfolio quite quickly. Loans are secured against the prop­erty, which provides the primary security.’  

Collective funds

There is considerable choice in the collective funds part of the market. Investors can look at pure residential funds, or at funds investing in stu­dent accommodation, healthcare or caravan parks. Among residential funds, the Hearthstone fund has been sold through financial advisers to date, but will be opening up for direct investment later this year under a new name – the Homeinvestor fund. It could fulfil a number of different roles in a portfolio, says chief executive Cedric Bucher: ‘It is a diversifier of both capital and income, and a diver­sifier to commercial property, which tends to be linked to the economic cycle.’

He believes direct investors may use it as a more tax-efficient alternative to buy to let. Political pressure remains high on buy-to-let investors: a Conservative think-tank recently argued that the growth of the buy-to-let market in recent years has prevented more than two million families from benefiting from home ownership. This is likely to see pressure continue on the asset class and may mean it becomes less attractive.

Property funds could also have a role for those looking for a holding pattern for a deposit, says Bucher. Often prospective homebuyers lose out because they have to keep their deposit in low-earning cash accounts; theoretically, Hearthstone and comparable funds should provide a hedge to the property market, tracking property prices.  

The hedge won’t be a perfect one. Hearthstone aims to hold a diverse mix of residential properties across all areas of the UK. It also holds new-build homes rather than older homes. This ensures a stronger lettings market for its properties.  

Andrew Smith, chief investment officer at the group, says: ‘We have a fresh investment plan every quarter, aiming to identify those areas of the coun­try likely to do well… For this we look at a number of key indicators – is it near public transport, or a railway line? Is it near a university campus, or a large training hospital? We want good reliable em­ployers nearby.’ At the moment, this is leading the company away from central London and towards cities such as Bristol, Leicester and Nottingham.  

There are other options with a looser link to the residential property market. These may not always track the market higher, but could show more resil­ience in difficult economic conditions and will pay an income in the meantime. For instance the mul­ti-manager team at BMO Asset Management has invested in collective investments such as Darwin Leisure Property. This fund invests in upmar­ket caravan parks; that even extends to three-bed/three-bath lodges with hot tubs. This fund now has 19 sites and is trying to consolidate a fragmented in­dustry. It has seen good capital appreciation while also paying a dividend.

The BMO team also invests in the GCP Student Living closed-ended fund. Paul Green, investment manager, says: ‘This investment company invests in purpose-built student accommodation. These are brand-new buildings designed from the bot­tom up, and that’s part of the appeal. They are in and around London, where there is the biggest de­mand/supply imbalance. It now has 3,600 beds across 10 properties.’

Target Healthcare is another BMO holding. This invests in purpose-built properties leased to long-term care specialists across the UK. Green says that the fund isn’t reliant on economic condi­tions: ‘People keep getting older. The number of people aged 85 and above is likely to double over the next 20 years.’  

All of these funds pay an attractive income and have shown more resilience in difficult econom­ic climates. Some, such as the caravan parks, are positive beneficiaries of a declining environment. Although they won’t necessarily follow the prop­erty market, they will provide diversification and income to a portfolio.  

Property may not deliver the returns over the next decade that fortunate owners have enjoyed over the past 30 to 40 years. For those who don’t feel inclined to take the risk on a giant mortgage but want to keep their options open, bonds, collective funds or peer-to-peer platforms can provide a way in at lower cost.

Subscribe to Money Observer Magazine

Be the first to receive expert investment news and analysis of shares, funds, regions and strategies we expect to deliver top returns, plus free access to the digital issues on your desktop or via the Money Observer App.

Subscribe now

Add new comment