Newsletter October 2007

Buy-to-let investors return as rental market sees record growth

Buy-to-let investors returned to the market as rental growth reached record levels. Tenant demand for rental property has been boosted by declining accessibility, rising uncertainty and a slowing housing market which has reduced the impetus on would-be home buyers to enter into the market, says the RICS Lettings Market Survey.

29% more Chartered Surveyors reported a rise than a fall in tenant lettings, up from 15% in the last quarter. Deteriorating accessibility, tight supply and a slowing housing market has kept would-be home buyers in the rental sector, with many adopting a 'wait and see' approach.

New landlord instructions (an indicator of buy-to-let activity) picked up sharply in Q2. 20% more Chartered Surveyors reported a rise in landlord instructions compared to 8% in the previous quarter – the first time that the figure has moved above the long run average (16%) in 15 months.

However, there was some further evidence that more heavily leveraged landlords may be feeling the pinch from higher interest rates. In the interest rate-sensitive areas of London and the South East, Landlords sales rose above the survey’s average. However, at 6%, the percentage of landlords selling their properties at renewal on a national basis remains below the previous peak of 10% in Q2 2004.

Looking forward, surveyors expect rents to reach record growth rates in the coming months. In particular, surveyors expect a surge in rental growth for flats into the autumn as first-time buyers watch for the impact of interest rates before taking the plunge.

RICS spokesperson Jeremy Leaf commented:

"Current economic uncertainty has created an ideal platform for buy-to-let investors to cash in on rising rental levels. Many would-be buyers have decided to wait and see how the interest rate cycle will affect the market. Rising rents are offering some compensation for landlords that are experiencing higher borrowing costs although buy-to-let investment will struggle for funding in 2008 as lenders become more discriminating, especially for 'sub prime' properties."

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Rental growth to prevent market crash for commercial property

Positive rental growth will prevent a hard landing for the commercial property market, says RICS’ Commercial Property Forecast. RICS expects commercial property to provide an 8% return over the course of 2007 as strength in the economy and rising capacity constraints continue to encourage business expansion. 2008 will see a slowdown to 5% although critically investor returns will remain in positive territory held up by advancing rents.

RICS believes that the recent high profile sale of the Citigroup tower and the HSBC building does not forebode an imminent market crash. The listed property market signals a sharp downturn in prime commercial property prices in 2008 with the average property share trading at a 30% discount to net asset values. RICS believes that the listed market has become overly pessimistic with only modest declines in capital values envisaged by year end 2008.

The office sector will continue to see the greatest rental advance peaking between 8-9% although a return to the 20% plus performance of the late 1980s is not expected. Global trade and ever expanding strength in financial services continues to push the office sector beyond both the retail and industrial markets.

Rents in the retail sector will be unspectacular, rising a little above inflation as caution returns to the high street. Interest rate rises and the growth of internet retailing have instilled efficiency pressures on retailers in recent years despite more optimistic moods in the retail industry in recent months.

The ongoing recovery in the Eurozone has supported the industrial sector but a strong pound, higher interest rates and rising oil prices will bear down on industrial rents.

RICS senior economist Oliver Gilmartin said:

"Despite the much-trumpeted rise in nominal bond yields during 2007, support for commercial property into 2008 will come from strong economic growth and rising commercial property rents.Stock market volatility during May 2006 and the first half of 2007 highlights the need for diversification within portfolios, with the insatiable appetite from retail investors unlikely to dry up into 2008.

The evolution of the market with the growth of property derivatives and REITs will allow commercial property to firmly assert itself as a core asset alongside bonds and equities in the years ahead."

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Buy to Let expectations remain positive

With relatively low loans on their investment properties, more than half of all Buy to Let investors expect to increase their portfolios over the coming twelve months and 90% of investment landlords said they would not sell should house prices fall, according to the latest ARLA quarterly Review and Index. This is based on the largest independent survey of the Private Rented Sector.

However, if the summer’s demands for changes in the tax regime for residential property investment were to be met, a significant number of investors would then consider selling, this latest Review shows. It is tax changes that would severely damage the Private Rented Sector. The ARLA Review and Index for the third quarter shows that 54% of all landlords surveyed during August expect to make further Buy to

Let investments during the next twelve months. However, if mortgage interest ceased to be an allowable business expense, more than four out of ten, 42%, said they were uncertain what they would do.

And, a significant minority, 28%, said they would certainly sell some property, while ten percent said they would sell out of the Private Rented Sector altogether.

Commented Ian Potter, ARLA Operations Manager, “With the institutions less interested in the Private Rented Sector and private equity companies not filling the gap, the loss of any private individual investors would seriously effect the rental market and severely curtail choice in housing. Private Buy to Let investors have refinanced the Private Rented Sector and restored social acceptability to renting,”.

The average Loan to Value ratio for Buy to Let investors in the last Quarter was 59%, marginally less than in the previous quarter. The proportion with loan to value ratios between 51% and 75% has dropped marginally, with a corresponding rise for those with ratios between 25% and 59%. Just over a quarter of all Buy to let investors have loan to value ratios of between 76% and 90%, with only 1.3% with loans to value of more than 90%.

The Review and Index continues to show that the vast majority of landlords invest for the long term. The average life expectancy of their property investments is 16.5 years, with nearly a quarter expecting to hold their investments for more than 20 years.

Over half of all landlords are investing for long term capital gain, while the number looking for a combined yield from capital appreciation and rental income dropped from 45% to 40%. Very few, only 2.5%, look to make short term capital gains.

The Review shows annual rates of return, including rents and capital appreciation, for the last quarter across all regions as averaging 11.34% from an outright cash purchase of residential investment property and 22.26% from a geared residential property investment.

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