- Commercial property market hard hit by Brexit
- London market will stay paused until impact becomes clear
- Commercial property still seen as attractive long-term asset
If anyone doubted that the European Union referendum would have a serious impact on commercial property investment, then their scepticism was dispelled on 4 July when Standard Life Investments announced that it had suspended trading in its UK real estate fund.
The decision was taken, it said, 'following an increase in redemption requests, as a result of uncertainty for the UK commercial real estate market following the EU referendum result'.
ECHOES OF THE FINANCIAL CRISIS
A string of other fund managers, including M&G, Henderson Global Investors and Canada Life quickly followed suit, while Aberdeen offered a drastic 26 per cent price reduction to those wanting to redeem their investment within seven days.
Some of the affected funds were reported to be putting properties on the market to provide liquidity to investors.
The prospect of Brexit, in other words, led investors to sell up and ship out of UK property - prompting echoes of the financial crisis, when similar action had to be taken.
Property assets, as has been shown in the past, cannot be disposed of quickly and easily in distress, and the aftermath of the vote to leave the EU certainly fulfils that description.
So Standard Life et al were forced to take action to avoid having to sell assets at knockdown prices in order to meet redemptions.
The commercial property sector has been one of the worst affected by the referendum result. The immediate impact on property companies and real estate investment trusts (Reits) was brutal.
Almost £15 billion was wiped off the value of quoted companies in the sector in the first two days of trading after the vote, and among the biggest fallers were Reits Derwent and Great Portland Estates, with their share prices down by 34 per cent and 30 per cent respectively.
That compared to a fall of just 5.6 per cent in the FTSE 100 in the same two days. There's been a little bit of bounce since, but even so, share prices have seen almost three years of gains wiped out.
And further, tangible evidence of the hit taken by commercial property came from evidence of specific deals falling through.
In the run-up to the referendum, Reuters reported that many impending property deals had had a 'Brexit clause' installed at the behest of the purchaser, giving them the right to walk away in the event of a vote to leave the EU.
More than 50 per cent of the intermediaries spoken to by Reuters acknowledged that they had written or been requested to introduce a Brexit clause in transactions.
Following the vote, Property Week reported that a number of deals had been put on ice, including a bid by Canadian buyers for Mulberry's flagship store in London's New Bond Street. Other deals apparently put on hold were as far afield as Scotland and Northern Ireland.
Why has commercial property been so badly hit by the vote for Brexit? At its most simple, the answer is uncertainty.
As Digby Flower, Cushman & Wakefield's chair of UK and Ireland, puts it: 'The London markets will remain paused or at least moving in slow motion whilst businesses absorb the impact of the exit vote.'
Institutional investors, he added, 'will hesitate to commit to either purchase or sale decisions until the effects of Brexit become clearer'.
Chris Ireland, chief executive of property services company JLL, outlines a raft of expected impacts, ranging from weakened occupier demand to a deterioration in investor sentiment and lower capital values.
He adds: 'Much will depend on the speed of negotiation, the wider political picture and whether a clear and favourable direction of travel is established early on.'
The general fear is that corporate occupiers will put off committing to new leases, and in some cases will move staff from the UK; developers and investors will be less willing to put money into new properties in the UK; and even that the construction industry will suffer from the loss of workers from outside the UK.
If the property industry was taken by surprise by the referendum vote, the same is probably even more true for many of those who have piled into property funds over the past few years, looking for positive returns in an era of zero-interest deposits, and seeking to ride the coat-tails of an industry recovering strongly from the financial crisis.
The IPD Annual UK Property index has shown a total return of 10.5 per cent a year over the past five years, and 13.8 per cent over the last three years.
Before the latest collapse in their prices, some of the mainstream UK property funds were showing annualised double-digit returns over the last four to five years, attracting many new investors into the sector.
Those who bought in three years ago will still, to a large extent, be showing a profit, but for anyone who has invested in the past 12 months, the outcome is firmly in negative territory.
Before Standard Life suspended redemptions in its fund, a number of funds had already taken action to write down the value of their assets and adjust the valuation redeem to address the volatility in the market.
The UK property funds run by Henderson, M&G Investments, Standard Life Investments, Aberdeen, Legal & General and Kames Capital all underwent such writedowns, reducing the value of their portfolios by up to 5 per cent.
M&G spelt out to investors why it was making this move: 'There is a risk that investors who redeem will receive too high a value for their shares at the expense of those who stay in the fund.'
Henderson led the way in moving monthly valuations of its portfolio to a weekly basis until further notice, in order to keep more firmly abreast of the changing market.
The outlook for property is uncertain until negotiations on exit from the EU begin in earnest, and it would take a rash pundit to make precise forecasts on where the market is headed right now. Nevertheless, there are clearly some indicative observations that can be made.
As with residential property, London looks to be in the eye of the storm because of the pivotal role of financial services - the sector that appears to be most directly threatened by Brexit - and the vast investment in the capital's office market.
Some talk in apocalyptic terms; one company, Green Street Advisers, suggests that values in London could fall by 10 per cent in the short term, with the City taking most of the pain.
Estate agent Knight Frank takes a more sanguine view, with its central London research partner Patrick Scanlon noting that 'many businesses with a large London presence are focused on markets outside the EU, and the UK's exit from the Union will have a limited impact'.
The retail sector can also be expected to feel the chill wind; if the economy goes into recession, that could be expected to have a significant impact on consumer spending; and rising inflation caused by the falling value of sterling is also likely to take its toll.
Perhaps the sector with the best immediate outlook is industrial, where a lower pound could give a short-term boost to manufacturing, though the long-term picture will depend on new trading agreements being worked out.
There's no shortage of those who stress the attractive long-term nature of UK commercial property. Mark Granger, chief executive of estate agent Carter Jonas, recently put it thus: 'Commercial property, particularly in London, is seen as a stable safe-haven asset.
'Its attractiveness as an investment opportunity is supported by the stability of one of the world's most secure democracies. In the long term, it is unlikely that a vote to leave will change this.'
But the current turmoil has highlighted the fragility of commercial property as an asset class for private investors. In the coming months all eyes will be on city skylines, to count the cranes.
BEYOND THE UK
There are many funds that invest in global property which may have minimal exposure to Brexit. On the minus side, regulation may be limited and you are also exposed to exchange rate risk.
BlackRock Developed Real Estate Index fund is one of the three biggest, with some €1.3 billion (£1.1 billion) under management. The Dublin-based fund has 54 per cent of its assets in the US, with the UK representing only 6.3 per cent of the portfolio.
It has returned 10.16 per cent over one year and 45.92 per cent over three years, and suffered only a minor correction in the wake of the referendum.
Franklin Global Real Estate fund has a similar geographic profile and also rode out the Brexit vote, and shows an annualised return of 10.1 per cent over five years.
The Fidelity Global Property fund is domiciled in Luxembourg but can be purchased in sterling and has an annualised return of 10.65 per cent over the last three years. It invests primarily in real estate companies.