I have been bearish on the UK residential market since 2003, unable to believe that what was happening between then and 2007/8 was in any way good – or sustainable – for the UK economy. Whilst every other person around me appeared to become a property developer or had a buy-to-let flat or two; I remained carping on the sidelines – although I do hold property within my own investment portfolio.From 2008 onwards I have been partially vindicated in my beliefs. My two favourite valuation metrics are the rental yield and the average earnings remaining stretched either UK or regionally. For example: a 3rd floor, three bedroom flat in Marchmont – an affluent area just South of the Edinburgh’s Old Town that is popular with young professionals (single or married) and also with some wealthier students – would have cost around £90,000 in 1996, depending on the street. However by late 2007 the value of this property had risen to around £300,000; yet the average earnings for a young professional are about £40,000 (slowly rising wages will be another blog – please look out for it). Doing some basic calculations that’s a 7.5x multiple – a long way over any long term average – so a fall of 30-40% would still leave a long term holder with a very respectful return, however if you’ve bought the property post 2006/7 it isn’t such a good situation. By 2007/8 rental yields had fallen to 3-4% and according to the LSL buy-to-let index they are currently about 5.3% gross . That’s comparable with some net yields of FTSE100 stalwarts like GSK, yet it is far from good as deductions need to be made for agent/solicitor fees, government taxes, R&M and problem tenants – late or not paying rent, trashing the property or just running away.
When an overall asset or market doubles in value over a 10 year period – as UK residential property did, particularly in central London, Edinburgh, Bath, Bristol and parts of Manchester – a downfall must follow in the coming years. Pick your area of prime property and look at the charts. Even with interest rates at low levels, and for good reason – as any rise would tear the guts out of many people’s personal finances, capital values of residential property are not going to increase much over the ten year period of 2007 – 2017, except perhaps for the super-rich preferred streets of central London, because the reasons being learnt from the financial crisis are still being endured.
Therefore, whilst troubled banks lending to those with little capital or too much debt remains prevalent, there arises an opportunity for the frugal and bargain minded private investor to purchase residential properties with falling or steady prices, when there is strong rental demand. With new build properties remaining subdued this could also provide as secure an income as possible in the current envirnoment. Yield is key. Don’t overpay and remember that borrowing rates will eventually rise, so in my opinion 5.3% yield is a minimum.
LDC