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11.10.2010

UK Real Estate as a safe haven

Identifying viable investment opportunities in a volatile terrain

Adam Cavanagh – Head of Real Estate, Gatehouse Bank

Global economic events have exerted an undeniable pressure on the world’s financial markets in recent months and investor confidence levels have been impacted worldwide. Yet despite this wider market volatility, much is being done to preserve the UK’s reputation as a safe haven for business. The UK has already weathered its own economic storm and relative to other markets it provides respite, with secure and viable investment opportunities for foreign investors seeking long-term wealth preservation.

According to the latest figures from the Office for National Statistics, UK GDP grew by 0.2% in the second quarter of the year and Government policy remains committed to reducing the national deficit and creating a sustainable measure of economic growth. While the current environment may not provide a heady level of activity, the short-term ‘noise’ of the trading market should be set well apart from the considered approach and unique assessment criteria employed by long term investors. It is therefore well worth revisiting the UK’s strong market fundamentals, which may have been missed or under-represented in recent months.

UK commercial property remains a stalwart for many risk-averse investors, with total returns for 2011 projected to be in the positive 7% to 10% range following 14.5% in 2010. Indeed, at Gatehouse Bank we have already completed more than £250,000,000 in real estate acquisitions to date in less than 2 years, and increasingly we are optimistic that the UK market will continue to be resilient and return to growth in the longer term.

London has retained its pre-eminence as a financial and business destination of choice and for many GCC investors; it has become something of a second home that accommodates the tastes of an affluent wealth sector. This is supported by data which shows Far East and Middle-Eastern wealth classes continue to populate UK student accommodation at higher education institutions, generating strong demand and increasing capital values for such assets.

Behind this dynamic lies the acute point that the attractiveness of the UK as an international base for foreign and particularly, Middle Eastern investors is unwavering, not only for the present wealth class but also for future generations. According to Knight Frank’s global wealth attitudes survey, wealth advisers stated that 43% of their Middle Eastern HNWI clients would rate the UK as their first choice for buying a second home or relocating to permanently. This would suggest that these investors, particularly families, will naturally be inclined to invest in familiar territory once they have established themselves in the UK. Indicative to this point, foreign investors have driven luxury prime residential sales to a record level for the month of June, with 45 sales for £5m plus properties in the capital topping £494m.

Against both anecdotal and direct reports of capital inflows from the GCC region as investors seek avenues to place excess liquidity, and with a good understanding of GCC investor appetite; our strategy of securing high quality properties let on long leases to tenants with undoubted covenants is an approach that continues to resonate.

These are unique opportunities where investors can find respite, especially at a time when there is still much confusion about where safe havens exist for capital preservation. We find that our GCC buyers ultimately search for low-risk/high return allocations for capital; sustainable investment opportunities that are found in long term, real-income producing assets. A look at some of our most recent deals underlines this approach. Most recently for example, we completed the acquisition of a 62,000 sq ft office premises in Basingstoke, SE England, UK. The office building is let to IT services giant Fujitsu Services Limited for a 70 year unexpired term. We have also completed the £51.7 million acquisition of a 542,000 sq ft core manufacturing and logistics facility let to Rolls Royce plc, in Glasgow. The lease provides 17 years of certain term income, with a net initial yield of 6.6%, and fixed rental uplifts of 1.5% per annum.

Despite growing 8% since the start of 2010, commercial assets remain 30% below their 2007 peak. Property yields of around 6.45% still look good relative to the yields from other commercial assets. Equally, prime office rental growth in Q2 outperformed the wider real estate market, with increases of 0.6% representing a total 4% growth over the year to date.

It is also evident that there are pockets of opportunity to be found in the UK, reaching beyond London into the regions. Bristol, for example, has benefitted from a strong start to the year, as office take up increased by more than 50% in Q1 2011. Investment demand is also strong in South East England, with a spate of recent acquisitions, namely the Forbury Square building in Reading at £42.5m. In the regions, yields are expected to harden for centrally located Grade A stock and due to limited construction activity, rental growth is slowly returning. The fact that UK region-wide supply of Grade A space fell, has helped to maintain average prime headline rents, with overall levels expected to remain stable throughout the second half of the year.

The UK real estate market is arguably one of the most mature, transparent and liquid markets in the world, but as well as the obvious benefits of geography, what is most important to investors is the quality of the investment opportunity, combined with the well-established regulatory framework of the UK that governs such investment activities. For example, UK property is governed by a well-established English legal framework that offers investor protection with clear sight of ownership, transfer in title, tax, and suitably for GCC investors; solid expertise in Shariah compliant financial structures and investments.

It is clear that the compelling indicative returns, combined with the maturity and security such investments are able to offer, are some of the key attractions of the UK real estate market. Set against a disruptive “traders market” focused on short to medium term results, there are very few offsets still available in today’s volatile markets. Alternatively, we invite real discussion among investors that want to see real and sustainable returns from investment opportunities that redeem value on a long-term basis.

Key statistics and up to date information on UK Real Estate fundamentals is provided through The Gatehouse View, a quarterly research report produced by Gatehouse Bank. To obtain a copy please visit info@gatehousebank.com