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Prime London office space still on sale in the stock market

I last wrote in detail about commercial property [1] as an asset class in 2009. In the aftermath of the financial crisis, half-finished towers and moribund building sites dotted London like the LEGO play of a child interrupted.

The towel had been thrown in. I saw an opportunity [2].

Over the next few years, property investments – stock market-listed Real Estate Investment Trusts (REITs) as well as old-style property investment trusts and funds – did better than anyone expected.

Helped by persistently low interest rates, property assets doubled or even tripled your money over the next few years, thanks to rising prices and generous yields. Skyscrapers soared [3].

Some property shares lagged the recovery, giving a chance to buy again [4] in 2011 – especially as the recovery was slower to reach small cap property firms [5]

However certain parts of the sector are now well down from those highs.

Industrial property companies are doing well thanks to the weak pound juicing manufacturing, and there’s a boom in the warehouses that support online shopping and other logistical operations.

But companies that own lot of office space in London trade at big discounts to their net asset value – due mostly, I think, to the ongoing Brexit fiasco.

The market also seems wary of second-tier retail exposure. That’s understandable in light of the many store and restaurant closures we’ve seen since we voted to shoot ourselves in the foot in 2016.

Bailing on Brexit

Long-time readers will know I think Brexit is our biggest unforced error since the Hundred Years War.

However everything has its price.

If I can buy prime London office space at 70p in the pound via the stock market, I have a good margin of safety. If property developers have curbed speculative ventures because they fear bankers will decamp to Frankfurt and start-ups to Lisbon, at least new supply will be limited. That should help the incumbents.

Also, I don’t think we’ve condemned ourselves to penury with Brexit. I just believe we’ll be poorer than we would have been, for the foreseeable decades to come, for little gain. (That’s bad enough!)

Jeremy Corbyn notwithstanding, the rich will still get richer, and London will remain the base of operations for most of them.

You can shake your fist from the provinces, but you can’t make an oligarch or a tech entrepreneur move their company to the middle of nowhere. (Movers and shakers are even more aghast at that idea in light of the social divisions revealed by Brexit.)

But before anyone sells their Facebook shares and plows it all into UK real estate, know three things.

Firstly, Monevator is not about share tips. At most, posts like this are just suggestions of areas worth exploring. Do your own research – and on your head be the results.

Secondly, you should know I’ve had this view about commercial property since quite soon after the Brexit vote, when traders dumped UK property faster than Boris Johnson shedding his principles.

As global money began fleeing UK PLC, property funds had to be gated [6] so investors didn’t ask to withdraw money that the funds didn’t have. I thought this was a sign the panic was overdone, and flagged up [7] the potential opportunity.

Since then some companies I mentioned have done okay, but others have fallen further.

Again, do your own research – because you will have to live with the consequences.

This time it’s different

The third thing to note is that back in 2009, property prices really had plunged.

If you wanted to go out and buy a London office following the financial crisis, it was cheaper than a few years before. Same with a new lease, too. Prime property was going cheap.

The falls in property investments on the stock market then reflected this gloomy reality.

That’s the standard cycle [8] in commercial property. Boom years – in which money is easy to find and development rampant – followed by lean years where over-extended developers go bust.

Sell when the fat blokes in suits and hard hats in the business pages look smug and contented, that’s my rule of thumb. Consider buying when those CEOs have been shuffled away for wiry upstarts who appear in the same pages talking up the forgotten sector [9] again.

This time – so far – it’s different.

London office space is holding its value, and rents remain high, too. Brexit fear has not yet dinged the hard bricks and mortar assets themselves, just their stock market proxies.

Those discounts to net asset value we see with certain REITs may reflect an irrational disconnect with reality on the ground. Perhaps some of the beefy property blokes will be proved right to be more confident about Brexit than the flighty liberal elite fund managers selling down REITs?

Alternatively – more technically – it may be that hedge funds and the like who are very pessimistic about Brexit have turned to shorting the shares of listed property giants as an easy way to express that view. (The funds are unlikely to own physical offices to dump).

Does this make the big London office REITs more of an opportunity this time – because it’s a phony war – or less so – because the usual cycle hasn’t yet played out from peak-to-trough?

It’s something to think about.

Commercial property and your portfolio

In my next post I’ll recap the broader investment case for commercial property, whether you’re an active or a passive investor.

Why do some model portfolios [10] include specific commercial property exposure, and how does the asset class differ from equities and bonds? What if you already own your own home?

The exciting bit is over, but the important stuff is to come. Subscribe [11] to catch it.

Disclosure: I have various beneficial interests related to London property.