A lot of column inches are spent focusing on property prices rather than rents. We find this surprising as rents and rental yields are a fundamental driver of property values. Rents provide the income to cover operating expenses, capex, finance costs and taxes. As a property investor it is important to have an understanding of where the rental market is trading currently within a historical perspective as well as some perspective on where rents might trade going forward. Our CEO and former Fund Manager, Fraser Slater takes a detailed look:
Where are Rents in a Historical Context?
The chart below shows PCL rents indexed to 100 from 2005. Here we can see that PCL rents have grown +43% over the last 15 years, representing an annual growth rate of +2.4% p/a (a growth rate broadly in line with inflation). In 2020 PCL rents fell -8%:
What's Happened to Rents for Flats versus Houses during Covid?
The ban on international travel for a large part of 2020 led to a large number of short-term rental units (typically occupied by overseas students, corporate tenants and short stay AirBnB visitors) flooding onto the long-term market driving down rents. To put things in perspective the chart below shows passenger numbers through Heathrow over the last 15 years. There is little doubt this must have been (and remains) a truly dreadful period for short-let landlords:
The international travel ban combined with lifestyle changes (principally the desire for more space and WFH) led to a significant decline in apartment lets, with values down -9% in 2020. By contrast PCL houses performed much better (+0%) on the year. To show how unique this has been we have highlighted the same numbers for flats and houses during the GFC below:
How Does the Shape of the Rental Decline Compare to the Financial Crisis?
What's also interesting at this time is to look at how PCL rents have performed during recessions to give us a clearer perspective on the historical downside. In the Financial Crisis, rents fell -22% from peak to trough over a 19 month period from the onset of recession. In the 2020/21 recession PCL rents have fallen just -8% to date and the downturn to date has been on a very similar trajectory to 2008/2009. For some this may cause alarm suggesting we are on the same pathway as the GFC, implying we are less than half way through a downturn where rents will trough over 20% lower. However we would caution against such a view on the grounds set out below.
Are Rents Likely to Follow the same Path as the Financial Crisis?
Of course anything is possible but in our opinion, we think this is unlikely for the following reasons:
Before the Financial Crisis PCL rents were in bubble territory: in the 35 months prior to the Financial Crisis, rents in PCL grew a staggering +35%, way outstripping inflation. By comparison in the 35 months prior to the 2020 recession, PCL rents declined by -3%, significantly underperforming inflation. Less ‘heat’ in the market on the way-in, may suggest the decline this time round may not be as steep.
The Financial Crisis was death by a thousand cuts. This time round the way out appears clearer: As a former Hedge Fund Manager running a fund through the GFC I recall the roller-coaster ride in equity, bond and real estate markets that went on for the best part of 2 years. In comparison, this recession has been short and sharp with a clear exit route over the course of the next 6 months or so (famous last words!). The level of fiscal and monetary stimulus this time round also far outstrips that during the GFC. Equally during the GFC investors and individuals were uncertain as to whether QE would indeed lead us out of recovery or whether we would be mired in a depression. The fact individuals and investors now know the QE playbook, should give us confidence in a much sharper recover in 2021 and beyond.
Banks are far Better Capitalised and there are Far Fewer Speculative Landlords: In the 3 years prior to the GFC a significant number of rental properties were owned on 90% plus LTVs on an interest only basis. As bank after bank hit crisis point, lenders called in loans leading to a fire-sale of assets driving down both prices and rents. In this recession the level of PCL speculative investment on the way-in, is nothing like 2008/09 with the sales market having peaked some 6 years ago and a large number of "loose-holder" having been already purged from the market. Crucially lenders are also far better capitalised with regulatory capital and reserves far in excess of 2008/09 levels.
But Changed Lifestyle Patterns may Drag
Although there are a number of factors that make this recession distinct from 2008/09, we are concerned that changed lifestyle patterns and WFH may temper the pace of recovery. When it comes, the shape of the upturn may also be peculiar. For example when international travel resumes we would not be surprised to see rents in the short-let market balloon as a shortage of stock drives up rents. And once the short let market is rebalanced, the long let market may suffer from a lack of capacity in turn driving up rental prices.
The outlook for Prime Central London rents is unclear. However the experience of the GFC where rents fell 22% peak to trough is unlikely to be repeated in our opinion. There was a bubble in rents going into that crisis which has not been present leading into 2020 (in fact the opposite is true). Speculative Buy to Let investment has not been on the same scale as the GFC. Banks are far better capitalised and with a vaccine there is a clear pathway out of this recession looking into 2021. In the near term much depends on the speed with which we exit 'Lockdown 3' and the restoration of international travel but we are sanguine that this will not be as bad as 2008/09. ... Touch wood!
Chief Executive of Ludgrove Property Ltd
43 Berkeley Square
London W1J 5AP
Tel: +44 (0)207 889 2860
About: Ludgrove is a research-driven Prime London property buying agency, sourcing properties for home-owners, investors, family offices and developers. The company is the only UK buying agency that conducts in-depth research into the Prime London property market and their research regularly features in The Times, Forbes Magazine, Property Week, PrimeResi, Mansion Global and others. As well as conducting searches for homeowners, Ludgrove sources and appraises off-market apartment blocks and development opportunities, adding considerable value to Investors and Developers. The agency is ranked one of the top UK buying agencies by Prime Resi. CEO and Founder Fraser Slater is a former Real Estate Analyst and Fund Manager. His former fund WDB Capital was one of the best performing Funds in Europe during the Financial Crisis.
Please call us on +44 (0)207 889 2860 or visit www.ludgroveproperty.com to find out more.
Disclaimer: Ludgrove Property Limited is not authorised or regulated by the Financial Conduct Authority (FCA) and we do not provide any financial or investment advice. We recommend that any property investor seeks appropriate professional advice before entering into any contract, and we would also advise that the value of any investment can go down as well as up and that you might not get back what you put in. You may have difficulty selling a property investment at a reasonable price and in some circumstances it might be difficult to sell at any price. We would urge you not to invest unless you have carefully thought about whether you can afford it and whether it is right for you, and if necessary to consult with a professional advisor in accordance with the Financial Services and Markets Act 2000. All information is provided strictly as a guide only, is subject to change without prior notice and does not constitute an offer of investment. The Ludgrove website should not be regarded as an offer or solicitation to conduct investment business, as defined by the Financial Services and Markets Act 2000. Investors who are resident in or citizens of countries other than the United Kingdom may be subject to local restrictions. In particular, no offer or invitation is made to any US persons (being residents of the United States of America or partnerships or corporations organised under the laws of the United States of America or any state, territory or possession thereof), who are excluded from the services offered in this site. The information on this website and our publications has been obtained from sources which we believe to be reliable and accurate, but without further investigation this cannot be warranted.