Where From Here?

"Where do the property markets go from here?" was the topic of discussion at the LAI London Chapter luncheon, November 20, 2008, presented by guest speaker Ed Stansfield, head of property research at Capital Economics, an independent macroeconomics research consultancy based in London.

If it hadn’t been for the good company and excellent food, our Lunch on 20th November would have been a depressing affair. Our President had chosen for our speaker one of the more bearish commentators, and Ed did not disappoint!

His answer to the question set was simple: down -– considerably down. Our commercial property market has fallen an average of 30% and he could see this extending to 40/45% in fairly short order, where it would remain for 2 years or more. Residential will be no better; he pointed out that the earnings/house price ratio still remains high by historical standards and he argued for a further fall of 20% before a floor might be found.

Unfortunately, as well as bringing such a depressing message, Ed was able to convey his views with demonstrable skill and logical support; few would have left unconvinced.

The core of Ed’s rationale lay in his, now universally held, belief that the world, and particularly the UK and US are faced with a deep and extended recession. In response to a question, he suggested that the Euro-zone problems may be less, but he was sceptical of their ability to agree on and organise effective and timely counter-measures, thus making a manageable crisis worse than it need be. In a bid to limit the degree of recession, central bank interest rates could well be brought down close to zero, but Ed argued that this may have only a limited effect. Whilst the banking crisis may have been contained for the present, he thinks that further failures remain more likely than not. Whilst that is the case, the appetite for lending by banks will be very constrained and low central bank lending rates will not transfer to the real world. Further, the prudential barriers to lending will remain high. On the other side of the equation, the appetite of businesses to borrow will be pretty weak. Tumbling profit (?) margins will threaten business viability and discourage new investment. There are bound to be extensive worker lay-offs (perhaps 3.3m unemployed in the UK). Ed therefore painted a gloomy downward economic spiral as a virtual certainty.

This basic scenario had inevitable financial investment consequences. Equity dividends would be extensively threatened, making a mockery of backward-measured dividend yields. In a similar manner, effective economic demand for commercial property will evaporate across the board, if it has not already done so. He argued for falls of around 25% in rental values. Such a view of rents would undermine any view that property yields looked cheap compared to Government bonds of 3%, or perhaps less. Ed argued that this depressing property picture would extend across sectors and geography; there will be no safe niches!

On BBC TV there is a brilliant, but gloomy, current dramatisation of Little Dorritt. Ed would have fitted in well, save that he offered no Amie to make things right. However, he did just manage to squeeze out three positive thoughts. He had kind economic words for Finland andGreece. He doubted if the UK Government’s likely borrowing and spending spree would be inflationary even in the long term; any borrowing would be a tiny proportion of the wealth destroyed. And, when asked how we would repay those debts, he reminded us that, although the reputation of many parts of the City was in tatters, the UK offered wider and still valuable financial skills.

Michael Mallinson, Scribe

 

Who is going to go bust?

was the topic of our LAI London Chapter's luncheon presentation (Thursday, October  9, 2008) by Héléne Demay, Head of Rental Information Service at IPD (Investment Property Databank), the world leader in performance analysis for the owners, investors, managers and occupiers of real estate.

Timing is all! If she had given her talk two or three days earlier the answer might have been easy – almost anyone. Fortunately, by our Lunch on 9th October 2008 the British financial situation seemed to have stabilised somewhat and Héléne was able to focus on her original ideas.

Her task within IPD is to identify and track, over time, the financial resilience of around 60,000 commercial tenants in the UK. Her target audience is largely institutional landlords who, in today’s more difficult times, have come to realise that they have a vested interest in understanding the status of their tenants, and that such understanding can be a crucial element of their investment decisions. The core of her work derives from close study and analysis of the product of credit agencies, particularly, in her case, Dun and Bradstreet. This data is supplemented by also looking at IPD data on rent payment history, by study of County Court judgements and other, more local data. The interest lies, of course, not in the snapshot images, but by the patterns that emerge over time.

As with all such endeavours, the quality of product depends upon the quality of inputs. Héléne admitted, for example, that her data would have offered no insight to the fall of Lehmanns. There is inevitable degradation of input where published accounting allows significant ‘off-balance sheet’ activity (the author wonders if the days of this are numbered). Nevertheless, her time series do give valuable insights that can assist landlords by giving early warning of impending trouble, and perhaps the chance to take ameliorating action.

In the current market there are clear signs of distress. For example rent unpaid after 30 days has doubled over the last year as has the level of default. However, Héléne was keen to emphasise that, given the severity of the ‘credit crunch’, default rates for investment grade commercial property were still extremely low.

Some discussion of names took place, but, under the ‘Chatham House’ convention of Lambda Alpha, these have been censored from my notes. Nevertheless two detailed comments might be appropriate. On the positive side, Héléne had noted the positive performance in her regime of retail warehouses. On the negative, there was some discussion of whether we should be watching more closely some semi-governmental and local government tenants.

Discussion also took place about how her data related to and impacted upon valuers. Whilst warnings from her data are clearly relevant to valuers as well as to landlords, there was some concern that, in difficult times such as the present, valuers might be over-defensive, over-cautious.

Ending on a positive note, a note that might have been more jarring a few days ago, Héléne argued that her data did not show the world to be ending next Friday, or even shortly after.

Michael Mallinson

Emerging Real Estate Markets

At our Lunch on 11^th September 2008 Mark Charlton, Director and Head of Research at Colliers International, gave us a fascinating insight into the course that many property markets follow as local economies mature towards the Western capitalist model. He used his personal experiences in the Balkans, Ukraine, Georgia and Kazakhstan to illustrate his points in a presentation entitled: "Emerging Real Estate Markets -- Obscurity to Maturity; Emergence to Convergence."

We talk of ‘globalisation’, but sophisticated property markets in the terms of long-term investors really only exist in North America, Western Europe and South-East Asia. As other countries seek to emulate the economic success of these areas, they must develop property markets to match. Most, at present, are moving from command (often communist) economies to free markets.

Mark identified a sort of typical evolutionary path. This starts with political instability and inherited low quality (but often highly priced) built stock. Governments kick-start the process by taking initiatives to enhance the investment quality, and thus the price, of their own debt to invest in infrastructure, and, by extension, the debt of international companies they seek to attract. Success in this vastly expands occupier demand and, with limited supply, rents soar to premium levels. Mortgage market principles will also be established. As a facet of this, nuclear families start to break and migration to cities accelerates, raising the demand for housing. This triggers a first response from local developers, often to low standards and, on their back, international developers follow. Over-supply commonly arises, and rents fall. The increasing presence of international companies forces improvements in building standards, and better space can be afforded as local wealth, often in limited hands, makes demands on retail and logistics for example. With such increases in building quality and robust renting arrangements international investors are attracted, albeit at yields higher than advanced economies. From this point on, convergence increases. Increased political and legal stability, greater transparency and increased data gradually reduce perceived business risk.

Not surprisingly, property market convergence runs in parallel with economic convergence, and also with social convergence. In the early phases, growing wealth will be in few hands, but the genesis of a burgeoning ‘middle class’, even if it is not as extensive as in the Western world, is a key component.

This ‘model’ is, in almost all cases, interrupted by over-ambition, and by political setbacks. It may also be retarded by local practices of ‘corruption’. This makes investment early in the cycle suitable only for those willing to accept high risk, but Mark sees the overall direction of progress as generally being strongly driven by local wishes, and eventual acceptance that the Western model will deliver. He gave as an example a 400 hectare site in Belgrade that is slowly emerging from political deadlock as realisation dawns of what must be done if its potential is to be delivered.

Mark emphasised that, whilst his model is robust, each country will have its own quirks. These may be quirks of history, or even quirks of ambition; not all countries wish to mimic the West entirely. Understanding how those quirks might distort the model, and particularly understanding where a country has got to on its journey requires extensive research and good local contacts if risk is to be managed.

As subsequent discussion brought out, the implication of Mark’s paper was that property markets presently off the radar of investors might merit consideration rather earlier. With care, and understanding of his model, rational investment was feasible. There would be risks, not least of liquidity and valuation, but higher returns and risk-spreading techniques are natural bed-fellows.

Michael Mallinson,  CBE FRICS (Scribe, London Chapter, LAI)

Planning for an Irish Chapter, LAI

Representatives of the leadership of the London Chapter, LAI had a very successful meeting in Belfast, Northern Ireland on Friday, May 30, 2008. Six of twelve new land economics professionals from Northern Ireland were inducted into Lambda Alpha International as members-at-large. Those were who unable to attend the inaugural luncheon will receive their documentation, shortly, either in person or by mail.

All those present, both existing and new members, expressed a strong desire to work toward an all Irish Chapter of LAI with separate branches proposed for Belfast and Dublin. Details are being investigated by the chapter members with the assistance of the LAI headquarters’ leadership.

In preparation for the creation of an Irish Chapter, Denis Myles has agreed to serve as President. Denis (FIRCS Dip, Prop. Inv. MCI ARB MEWI) is Managing Director of Myles Danker, Belfast and thus well known through out Irish business circles and uniquely suited to the task of steering the course for the Irish Chapter to come into being.

Prospective holders of other lead offices who have agreed to serve are: Roland O'Connell (Savills HOK, Dublin) as Vice President, Graeme Johnston (Belfast Harbour Commissioners, Belfast) as Treasurer and Conor McKernan (Douglas Wallace of both Belfast and Dublin) as Hon Secretary. These future incumbents truly are outstanding professionals in their respective fields of endeavor and worthy of the “honorary” distinction as a member of Lambda Alpha International.

The push is now on to recruit more members form both Dublin and Belfast with the objective of securing chapter status in Toronto in October of 2008.

The members of the London Chapter and all Lambda Alpha International take great pride in welcoming our Irish colleagues on board.

Healthcare Development and The Challenges Ahead

We were addressed at our Lunch on 12th June 2008 by Ken Steven, a consultant on healthcare provision. At the heart of his deeply-felt words was a personal anguish that there are tectonic strains within the whole of the healthcare area, but neither politicians nor practitioners seem able or willing to promote an open discussion about the principles under which the challenges should be met.

The causes of the strains are obvious: an aging population with increasing demands, and an ‘industry’ with a high capacity for producing remedies that either generate huge costs or bring radical new opportunities. As an example, many procedures that once required a 10 day hospital stay can now be dealt in a day or little more; he quoted an example of a heart by-pass being performed as day-surgery. These radical changes involve quite different forms of hospital management, and perhaps quite different approaches to hospital real estate. In Ken’s view, the NHS is simply too large and too bureaucratic to be able to keep pace. Despite the best efforts of many of its staff, it is hugely wasteful, and often inefficient. As a consequence, and largely by default private sector patches are and will continue to be added, but within an entirely unconsidered framework.

Underlying this grim picture, Ken sees a curious public attitude that is being betrayed by government ineptitude. The Man-in-the-Street is being told that he is being given choice, but is given no information on which he can make his choice. Perhaps as a consequence, people view the consultants they meet as miracle-workers, until something goes wrong when they sue them. Like all professionals, medical consultants vary in their skills, but there is no means of getting at knowledge of this.

The ability of the NHS to respond to the capacities of the private and charitable sectors is weak, partly by political conviction but also due to bureaucratic inertia. He was also concerned by a probable inability to meet changes in the legal environment of healthcare.

If the NHS faces challenges, so too does the private sector. The organisation of the medical profession does not make it easy to formulate the long-term relationships that high hardware costs necessitate. Consultants, quite naturally, wish to migrate to whatever place offers the latest and best for their clients. Solutions are possible, but they need to be openly thrashed out. The absence of the debate has left the private sector in limbo. As a consequence, much of its management expertise and its finance now comes from overseas.

In response to a question, Ken argued that, whilst a limited number of attempts are being made, it was unlikely that private finance could be found for solutions similar to those for student accommodation. Whilst mechanisms are quite feasible, they require agreement on the ground rules, an agreement that is not even being properly discussed. The PFI (Public Finance Initiative) solution has been, in his view, no more than a deferment of the problems it was supposed to meet. Who is thinking about what will happen when PFI projects mature – and some are now 25% through their life-span?

This sombre view of the management, political and administrative, Ken sharply contrasted with the high skills and unselfish devotion of many practitioners. He left the question in the air – why can’t we formulate the debate?

Michael H. Mallinson CBE FRICS (Scribe, London Chapter, LAI)

Land Economics Weekends: Phoenix and Toronto

Many members of Lambda Alpha International operate under the mistaken assumption that LEWs are just for BOGs -- that the Spring and Fall Land Economics Weekends (LEWs) are reserved only for the members of the Board of Governors (BOGs) of the organization and the chapters. 'Tisn't so!! LEWs are for all members, the spouses, even guests, professional associates, and FOMs (friends of members) who could benefit from this extraordinary educational experience.

Land Economics Weekends are hosted by a different LAI chapter twice a year, around May/June and September/October. Yes, the LAI BOGs do hold their business meetings on the Friday of a LEW, but after the work comes the play, the learn, the insight, the education about the land economics of the chapter's community. And what a fun-filled education the Phoenix Chapter of LAI provided to the members this past spring 2008. The Phoenix members gave us a truly insider's view of their community and of neighboring Scottsdale; inside the Scottsdale Hanger One (host to the private jet and automotive collection of the rich and famous); inside the Arizona State University's art center and prospective plans for an in-city campus; and inside a wide array of residential, mixed use, waterfront commercial (?? Waterfront?? in PHOENIX, you say???? YES, canalfront developments --- see what you missed learning about Phoenix?) .

And then there was the marvelous meals and speakers at Taliesan West, at sundown -- beautiful! Or at the Stockyards restaurant. And what a pleasure to meet and to talk with those next generation land economics professionals just graduating from ASU's real estate program (LAI's Student Association chapter in Phoenix). For more information, see their website: http://lai-phx.org/

Note that the agenda page has all of the links to the destination websites for further information. And checkout the 89 photographs posted as well -- truly a marvelous collection.

An insider's view: we saw it at the LEW in Los Angeles, with a tour inside The Rand Institute, with lectures by members of the team that managed the LEED processes. We saw an insider's view at the LEW in London (including a dinner and tour of Malahide Castle) and in Dublin and Belfast where we now have the opportunity to welcome a dozen talented professionals as members-at-large from Northern Ireland, where one or two new chapters are in formation as we speak.

Simcoe Chapter (Toronto) will host the Fall 2008 Land Economics Weekend (October 24 - 25). The chapter is arranging Friday tours of the University of Toronto campus, the Ontario Investment & Trace Centre, Yonge-Dundas Square, Queen Street West (a blend of art and real estate) and a presentation at the Historic Distillery District.

Saturday, tours of developments will include: Markham Business Park Corridor, the BAPS Shri Swaminarayan Mandir Hindu Temple, Mississauga City Centre, the St. Lawurence Starch Company Redevelopment and cocktails/dinner at the Gardiner Museum.

Toronto in October promises to bring us new expertise, vistas of prominent international development, and intellectual discourses on contemporary global land economics trends. For more information, see their website: http://lai-simcoe.org

Come see Toronto from inside the Canadian point of view! You'll be changed by the experience. All LAI members are invited and welcome to attend. For signup information, see the Simcoe Chapter website above or http://lai.org

Changing Times and Attitudes at Ann Summers

At the LAI London Chapter Lunch on 17^th April 2008 Ian Wallis gave us a fascinating insight into the development of a niche retail market: sex-related products. He charted for us the progress in business terms from a purchase in bankruptcy in the 1960s to a trans-UK and increasingly international presence today. In product terms, the progress has been from “men in macintoshes” to “a neighbour of Marks and Spencer’s”. This progress reflects, of course, the acumen of the Company’s owners, but also the transformation in mores during that time, a transformation in which Ann Summers played a significant part.

The business has had three strands. In the early days, it was very dependent upon ‘party retailing’; in a close analogy with Tupperware, the products were sold at female-only parties. Items not sold at parties were then passed to a small number of shops. In the 1990s the shop side was increased, to around 153 today. To achieve this was a considerable battle against entrenched attitudes by most large property owners but, Mr Wallis assured us, this has largely gone now – and no doubt the market troubles today will accelerate this growing ‘enlightenment’. Finally, in recent years, Internet selling has also become, not surprisingly, a major line for the business.

Part of the transformation in attitudes has been delivered by prudent management of product lines. This was given a boost by the purchase in 2001 of the Knickerbox chain. There is also an emphasis on developing well-known and trusted brands. Store layout and size has also been a key ingredient. Stores are now in the region of 1400 – 2000 sq. ft, with the latest, in Cardiff, being 4000 sq. ft. Layout design is intended to ameliorate the ‘embarrassment factor’, which is still a feature for many shoppers, while also preserving a degree of ‘theatre’ in the customer experience.

Some forays into fringe activities, such as vending machines and Ann Summers’ mobile phone ring-tones are being attempted. Franchising is not presently under consideration because there is considerable evidence of ‘cannibalisation’ when new stores are opened. This suggests to the writer that, despite the novelty of the products, demand is rather inelastic, if you will excuse the allusion. Ann Summers also appears to have been able to see off direct competition. Whilst a number of attempts have been made at the frilly underwear part of the range, there is no High Street competition in sex toys. Perhaps this points towards a business tension between creating more socially acceptable products, which might attract competition, and sticking with the less acceptable, which may frighten off competition.

All-in-all, Ann Summers seems to be textbook example of business creation and evolution in a ‘virgin’ area of activity – if you see what I mean. Ian Wallis gave us some very valid and enlivening insights.

Y’r O’b’d’nt Scribe

A Good Country for Old Men

Outlook for Global Property -- 2008

A Good Country for Old Men
Investment Property Forum/Society of Property Researchers' Event
March 2008

KS: Commmentary by
Karen Sieracki
KASPAR Associates Ltd.
Property Research Consultancy
karen.sieracki@kasparassociates.co.uk
President, London Chapter, Lambda Alpha International

KS: Well, it looks like the UK is the place to be for investment in terms of relative return and better risk profile. However, the skill is getting it right in terms of stock selection. It is here where experience does matter. The UK is now a good country for old men.

What kept people awake at night was the debt situation with the banks and were there any other surprises out there that would undermine the system.

U.S.

The consumer needs to get its balance sheet in order so it will not be driving the US economy forward. Corporate profits are still healthy at around 13% in 2007. This means money to invest in equipment and people, but business are currently in the wait and see mode.

Property yields have finally decided to move out - eg suburban offices at 7.0% (40bps out), CBD prime offices at 5.75% (25 bps out), retail at 7.1% and industrial at 7.25%. Will yields go back to circa 9%, the long term average? No, this is not thought likely.

The long term office vacancy rate is 15% and current vacancy rates in the major cities are getting near to that level now. Office rental growth for 2008 is likely to be in the range of 0% pa to 1% pa, a big difference from 2007 of 12% pa to 20% pa (average to prime range).

The construction cycle has started but the credit/liquidity crunch should stop it. Office and apartments are seen as income plays. Total return for 2008 is forecast to be 0% pa.

KS: Well, the concern here is - - will business help the US economy get better in 2009?? The consumer is burnt out. There is still the issue as to why the US property market did not feel the downdraft as early as the UK. There is much chatter about talking oneself into recession and the market down, but could this be denial? The chat is that 2008 property returns will not be negative and things will bounce back in 2009. Sounds all a bit familiar, so could the US be following the UK in the vain hope that this will happen?

Europe

It was felt that Europe and Asia had decoupled from the US on the economic front. The rise in the cost of debt should see a stop in development.

The UK is expected to see minus 1% pa total return in 2008. Europe total return is expected to be 2% pa for 2008. Yields have moved out in Europe. Office rental growth is expected to be 3.5% pa in 2008 and retail rental growth at 2.4% pa.

Investment deals in Europe had fallen by 30% in 2007 from the previous year.

KS: It is a brave move to feel that Europe and Asia had decoupled from the US. In looking at slowing economic growth and the maturing state of some of Western Europe's economies, immigration could be the saviour.

Also, investment activity could be tight as at the moment, there does not appear to be many forced sellers which would quicken the pace. Europe is a bit like molasses where the market is sticky and there is a lack of impetus.

Asia

Total returns for Asia for 2008 are likely in the order of 12% pa to 13% pa. There is huge economic growth potential in this region which has little real estate to support this activity. This is the important fundamental which underpins the investment activity.

China exports circa 20% to the US, so a slowdown in the US will have an impact, but it will not be too severe. Japan needs to restructure its economy.

There are risks down the line in 2009 and 2010 in the Asian markets as waves of supply complete, particularly in China and Singapore. Asia has less debt, so it not under the same pressures as the West to concentrate minds in this direction. The Asian property markets have low correlations with the UK market regarding property performance.

In looking at investment, the second and third tier cities in China are a focus for growing interest. The demographics for India are compelling.

The initial potential for investment is in the retail and hospitality sectors across Asia. Some Asian markets do have REITS which have been losing value. Could this be an indicator of future falls to come in the direct market?

With an office yield of 6.0% for Shanghai which, along with Hong Kong has twice the volatility of the City of London offices, is this really where one would want to be now? 2008 can be seen as possibly too late to enter these markets now. Leases are short - 2 to 3 years. It was felt that offices were past their peak.

KS: Asia is felt to be the hot spot, but it would appear that now is not the time due to the high level of development and its completion date. One needs to do research and spend the time and resources to understand these markets. The REIT factor could be a good indicator for future pricing in the direct market. So do your homework now, to enable you to be ready when the timing is better.

London Chapter Inaugurates Web-Log

The London Chapter of LAI is inaugurating a "web-log" or blog as a vehicle to foster greater dialog among our own chapter members and with LAI members around the world.

If a London Chapter member has an opinion piece or article they would like posted to this blog, email it to Mari McKavanaugh at mari.a.mckavanagh@som.com and request the item be added to this blog.

If a member of LAI wishes to opine on a blog entry, please click on the Comment field at the bottom of the individual piece.

Posting to this web log will be monitored and filtered as appropriate. Intrusive use of the site for unauthorized personal advertisement or advancement will not be not welcomed.