A scarcity of new-home construction in the U.K. means investment funds tied to the residential property sector — which have exploded in popularity in recent years — may have to change their strategies or take more risk, fund managers and legal experts warn.
Some U.K. residential property income funds will be forced to consolidate unless they broaden their mandates, take more risk, or expand their investment universes, say these observers, who note that they have witnessed unprecedented growth in investor demand for these funds — demand that has not been matched by growth in the availability of underlying assets, i.e., homes. British institutional investors have been hankering after homes they can rent to generate income for investors. U.K. funds investing in the sector include Hermes, Invesco, Legal & General Investment Management, M&G Real Estate, and PfP Capital, among others.
However, Tim Saunders, fund director for PfP, says the imbalance between investor appetite and asset availability now means funds without access to a regular pipeline of new homes will soon have to consolidate or broaden their investment universes.
“There are plainly challenges out there for some of those funds and we are going to see some consolidation as a consequence,” says Saunders. “It is inevitable.”
He adds that some major asset managers have “found it hard to deploy capital” because they do not have their own development pipeline, and that this has led to a fierce scramble for physical real estate assets.
Legal & General Investment Management is one of the largest players in the market and does create its own housing stock in which to invest. In a statement, Dan Batterton, build-to-rent fund manager at LGIM Real Assets, said his fund has £1 billion ($1.25 billion) of available capital, but only a third has been committed to four large property development schemes.
“Institutional investor appetite for U.K. residential assets is currently far greater than the available stock,” Batterton wrote.
Legal advisers to funds in this sector say the answer is to go beyond simply deploying capital to established assets and look at the actual development pipeline, but most mainstream fund managers’ mandates do not permit them to invest in development finance.
Julian Sampson, partner at U.K. law firm TWM Solicitors, says companies like Legal & General that are creating their own housing stock will survive any shakeout in the market, but warns that those reliant on external developers may find things more challenging.
“The critical problem for these guys is that they have to pay the investors for what they have just signed up for, plus the yield,” says Sampson. “How do you achieve that from a site which has just got a spade in it? You can’t.”
Despite this, fund managers continue to announce partnerships with external residential developers. Only this week, Invesco Real Estate announced a joint venture with a private rental housing developer named Platform.
In a press statement, John German, senior director for residential investments at Invesco Real Estate, said the investment for the firm’s U.K. private rental sector aims to provide “long-term income returns for our investors,” adding, “a fundamental part of our program is to work with reputable partners.”
However, PfP’s Saunders says other funds have become so desperate for physical real estate assets that they have even approached his firm for assets because of its proprietary pipeline.
“We have a large portfolio and access to a pipeline in-house, which we manage in-house, too,” says Saunders. “We have had approaches from other fund managers who are looking for large-scale build-to-rent sites. There aren’t many of them and it is quite a competitive process trying to get access to those opportunities.”
