November 2010

Emerging market wealth creation impacting all asset prices

The contrasting forces at work within prime central London property compared to the wider UK residential housing market were neatly emphasised by the £57 million paid by a Chinese collector for a rare vase at a London auction house just a day after a 50,000-strong student protest in London at government plans to hike tuition fees.

The record price for the vase comes at a time when the values of a wide spectrum of other unique ‘trophy’ assets have been spurred to new highs by wealthy investors from emerging markets. In Hong Kong in late October an auction of fine wine raised US$8.5m compared to the pre-sale estimate of $1.6m to $2.5m. All 284 lots went to Asian buyers. Indices tracking the price of fine wine and rare stamps have both reached fresh peaks in recent weeks. In the fine art world, prices for works from artists as diverse as Modigliani and Andy Warhol have also attained record highs at recent auctions as the globalisation of wealth creates a wider and deeper potential demand pool.

Contrasting outlook for prime London property and wider UK

We are not alone in believing that this explosion of wealth and the accompanying increase in international buyers of prime central London property represent a structural rather than cyclical change in market dynamics. In a recent update of its market forecasts, Savills said it expects overseas buyers to continue to play a significant role in supporting prime central London property in the years ahead while expecting price inflation in the mainstream market to remain notably more subdued. Savills says: “never have there been bigger differences in the outlook for the best properties versus the rest and for London and the South of England versus the North. London is a market driven by a totally different set of factors to the rest of UK housing, not least its position as a global financial centre and appeal as a safe deposit for international investors.”

Savills is forecasting a negligible price drop of 1% for prime central London property prices in 2011 with strong gains for each of the following four years leading to a 33.4% forecast gain for the five years to end-2015. This compares to Savills’ forecast of a 12% rise for the average UK property over the same time period.

According to Knight Frank, property prices in prime central London fell 0.2% in October, with the areas in which international interest is focused, such as Kensington and Chelsea, unsurprisingly holding up best. Knight Frank expects prices in prime central London to remain unchanged in 2011 before rising 5% and 10% respectively in 2012 and 2013 on the back of growing job and wealth creation.

Backdrop to mainstream housing muted, transaction levels low

Back in the more humdrum world of mainstream UK housing, the rarely consistent monthly data painted a typically mixed picture of the market backdrop to residential property in the UK in recent weeks. However, the underlying tone within the wider market remains resolutely downbeat as an uncertain economic outlook, the prospect of higher taxes and job uncertainty combine to deter potential buyers.

The Halifax House Price Index jumped 1.8% in October, but the bank was quick to point out that prices in the three months to end-October fell 1.2% which it calls “a better indication of the underlying trend in house prices than the monthly changes.”

Looking forward, Halifax says: “We do not believe that prices are set to fall sharply over a sustained period. Interest rates are likely to remain very low for an extended period, which will continue to support the improved mortgage affordability position for homeowners.”

Meanwhile, Nationwide reported house prices falling 0.7% in October, with its three month rate of decline accelerating to 1.5% in October from 1% in September.

Elsewhere the Royal Institution of Chartered Surveyors’ (RICS) monthly survey of prices showed a net balance of 49% of surveyors reporting falling prices over the last three months. Minus 49 represents the lowest reading since April 2009. Price expectations also fell for the fifth consecutive month. However, new instructions fell for the first time since January, a shift which RICS says could, if sustained, lessen the downward pressure on price in the coming months.

Overall transaction levels though remain extremely low – with the major driver being the difficulty in obtaining mortgage finance. In the wake of more stringent rules on the amount of capital banks must hold as security against loans, mortgage finance is likely to remain restricted to all but the highest quality borrowers. RICS reports that average sales per surveyor fell to 15.2 in October from 16.7 the previous month against a long run average of 26.8.

Rental market robust across the UK

But while the availability of mortgage finance and concerns about potential future price falls may be deterring buyers, the same factors are helping to drive an extremely robust rental market throughout the UK. Countrywide, one of the UK’s largest estate and letting agents, revealed that a record 61,000 new tenants entered the property market between the start of July and the end of September.

In prime London, rents rose by 2.7% in the third quarter according to Savills, with year-on-year growth rising to 12.3%. This leaves rents just 3% from their peak of March 2008. Knight Frank estimates prime central London rents have risen 16% since June 2009. Importantly, the backdrop behind these strong figures is not one we at Black Brick expect to change in the near future.

Supply is extremely limited. Knight Frank says the number of properties available to rent in prime central London in September was 6% lower than a year ago and a massive 36% lower than in September 2008. Meanwhile, demand continues to be bolstered by the corporate sector in general and by the financial services sector in particular. Although less of an issue than in the wider market given the higher proportion of cash-rich buyers, difficulties in obtaining mortgage finance and the desire to retain flexibility are affecting even the top end of the London housing market. So fierce is competition in some areas that the London Evening Standard recently reported that rental ‘gazumping’ had hit the UK capital – with as many as one in four landlords now asking for sealed bids from rental applicants.

Demand strongest at lower end of prime rental market

Camilla Dell, Black Brick Managing Partner, says: “With most lenders requiring a hefty deposit of around 25%, many would-be buyers simply cannot afford to buy and are therefore forced to rent. It is not surprising therefore that the lower tiers of the prime London rental market have seen the strongest growth over 2010 as caution among tenants and reduced corporate allowances have concentrated demand on smaller one or two bedroom properties. Void periods in London are also at an all-time low. We have bought a number of such properties in recent weeks for clients and have secured high quality tenants for all in a matter of days. However, the upper end of the rental market is nowhere near as strong – with increased supply and static demand for family housing stalling rental growth.”

Camilla continues: “The future longer-term outlook for the rental market also looks positive, with many would be buyers adopting a “wait and see” approach, this could provide a further boost to the rental market. Knight Frank predict that rents are likely to outperform significantly this year and next, but return to a more traditional pattern of growth from 2012.”

“Our advice to our investment clients has always been that investment into the London property market should be in prime property, in the best locations. This will attract the best possible tenant. It’s also important to remember that the main return from buying a property in central London will come from long-term capital appreciation, which historically has always been greatest in the prime locations. With borrowing rates in the UK low, and a healthy rental market, now is a good time to be considering diversifying into the prime central London property market, but remember that it pays to take advice. The London property market is extremely complex, with values fluctuating from one street to the next.”