Fund managers are generally positive on the long-term pros- pects for commercial property despite fa...
Fund managers are generally positive on the long-term pros- pects for commercial property despite falls in returns, which still exceed those of other asset classes.
Total returns for UK property dipped to 6.7% in 2001, reflecting a slowdown in the economy and ending a five-year run of returns over 10%. This still beat the All Share equity return of -3.2% and returns on long-dated gilts of 1.3% and cash of 5.5%, according to the IPD annual index. L&G calculates the long run nominal expected return on property to be around 7% pa, giving a real expected return of around 4.5% pa.
Andrew Clare, financial economist at Legal & General, says: 'The current strength of the UK economy has not fed through into rental income as yet. Commercial property tends to do well when the economy is strong.'
'If you consider we are just past the trough of the economic cycle, commercial property would typically do well from this point onwards. Coupled with the relatively high income you can expect from commercial property we can feel fairly confident on the asset class.'
Property is also partially insulated to the sort of concerns over interest rate hikes felt by the residential sector, Clare says.
'Interest rate rises would only be a problem in the sense they might hit business profitability,' says Clare. 'The MPC will put up rates if it thinks the economy is picking up. If it is putting up rates because businesses are doing well, they can afford to pay the rents.'
Mike Channing, investment director for Scottish Widows Investment Property team says: 'Some private individual debt buyers may be hit by a hike in interest rates but commercial investors should not be effected. The only threat would be if investors had to pull out to adjust an over-weighting if the stock market fell.'
Other issues are of more potential concern to the market such as occupancy rates and incentives to tenants.
'We estimate total returns for commercial property to be between 9% and 10% over the three to five-year period,' says Channing. 'We are cautious on occupation rates. In London vacancy rates are creeping up and rents are under a bit of downward pressure. Rent-free packages are increasing and we are watching that. Generally, we think the economy will pick up three to four years down the line and the property market will also improve.
This year and next could be flat although the weight of money is making prices increase so we may be being pessimistic. We feel the market is fairly valued.'
Mark Watt, manager of the unit-linked life fund at Standard Life, is neutral on commercial property, having moved from a light weighting at the start of the year.
'We are neutral in our with- profits and managed funds,' says Watt, 'as there is a concern that prices get to a point like in the mid-90s when there was a huge amount of money chasing property and the yields moved right down. But we have learnt lessons from then and I don't see it happening to that extreme.'
'There is an unprecedented appetite for commercial property. The unit-linked life fund has increased in size by 76% in the last 12 months.'
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