Our European analyst recently attended the BAML UK Real Estate conference in London. One of the panel discussions involved five CEOs of prominent UK REITs talking about the state of the London real estate market. The panelists were John Burns (DerwentLondon), Chris Grigg (BritishLand), David Atkins (Hammerson), David Fischel (Capital Shopping Centers), and now retired Francis Salway (Land Securities).
While a portion of the discussion needs to be taken with healthy dose of skepticism (CEOs are apt to talk up their portfolios), there was consensus that real estate income is a real source of return to many investors. Given the low interest rates, real estate yields continue to be attractive and thus puts significant pressure on the acquisition market. John Burns noted that it was the toughest buying market he has ever experienced in his decades in the industry. Prime asset yields have fallen to low 5% for city offices and even sub-4% for west end office space. Other CEOs agreed and pointed out that it was not just in London but throughout the UK.
New investors, flush with cash, are entering the UK market. In search for yield, they are bidding up secondary assets, and to the CEOs on the panel, that is a reason for concern. If and when the transaction market cools, secondary assets are the first to fall in value and generally are the last to recover. This is why there was agreement amongst the panelists that REITs should not fall for the yield trap unless they can create value through redevelopment.
In some form or another, all the CEOs have increased their development pipeline. This is where they see the continuation of growth in their NAV. Currently, there is a “hot” takeout market if one so chooses. But REITs should look at building a long, sustainable income stream, maintain a healthy balance sheet, and understand that the real estate market and the UK market in particular is a very cyclical creature.
The key CEO takeaways: Be early in the cycle. Development is needed to sustain growth. Asset obsolescence is a real concern.
And, of course, their stock is cheap.