Tuesday, August 18, 2009

UK commercial property recovery a false dawn

(LONDON) Hold the celebrations and put the champagne away. A sustained recovery in the UK commercial property market is likely more distant than it might seem, as lingering economic hazards threaten a long-awaited rebound.

Figures recently from the world's largest property broker CB Richard Ellis showed UK values rising for the first time since peaking in June 2007.

Coupled with a 75 per cent surge in property stocks since March, the positive signals have fired hopes of an imminent end to two years of turmoil in the market, where prices have almost halved since a summer 2007 peak.

But some analysts fear a burst of unjustified optimism has replaced the blind panic which floored annual investment turnover by more than 50 per cent to £22 billion (S$52.1 billion) in 2008.

'We had sleepless nights (in March) because we did not understand so much bearishness, those nights are unfortunately back. This time it is the violent bull run that wakes us up too early,' JPMorgan property analyst Harm Meijer said.

The weakening economy, a continued scarcity of debt and an expected withdrawal of government-engineered drivers such as low base rates mean a long-lasting recovery, with rising values supported by improving rents, could still be years away.

The FTSE 350 Real Estate Index, led by blue chips Land Securities and British Land, has nearly doubled since hitting a lifetime low on March 10. But analysts such as Nomura's Mike Prew say that the rally is built on shallow foundations.

'We are mindful that after the 1990s crash, real estate prices suffered a relapse with . . . soggy pricing until rental growth was comprehensively restored some two years later,' Mr Prew said, explaining Nomura's contrarian downgrade of the sector from 'bullish' to 'neutral' recently.

'Our concern is that real estate prices will become distorted by artificially supported economic activity. (The UK Reit sector) . . . no longer appears inexpensive to us,' he said.

Data from brokerage Cushman & Wakefield shows prime property yields dropped by 24 basis points to 7.17 per cent in the second quarter, raising concerns landlords are no longer receiving an adequate risk premium versus the 3.8 per cent for 10-year gilts.

This investment risk centres on rental security, which has fallen sharply as the recession forces weak tenants out of business and stronger tenants to dump space, analysts said.

Cushman's quarterly figures to end-June show an acceleration in rental falls, while the take-up of UK office space has plunged by around 50 to 60 per cent in the year to June 30, pushing peak-to-trough forecasts for prime rents down by a fifth.

'It looks like a W-shaped (property) recovery could be on the cards, caused by short spikes in demand and a subsequent realisation that the economic fundamentals remain weak,' said Mike Riordan, head of investment at brokerage Gerald Eve.

Moreover, UK buyers are still struggling to secure debt from traditional lenders such as Lloyds Banking Group and Royal Bank of Scotland, who continue to battle their own funding problems and costly exposure to UK commercial mortgages.

Other economic commentators suggest the surprise £50 billion expansion of the UK's quantitative easing programme recently is evidence the central bank sees a double-dip recession as inevitable, compounding risks of an early return to property. - Reuters

Source: Business Times, 18 Aug 2009

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