How UK commercial property could be turning a corner

The UK commercial property sector has faced numerous challenges in recent times. Not just the shock impact of the Covid pandemic on demand, but longer-term challenges of higher inflation and higher rates, changes in shopping habits, and more hybrid working practices, to name but a few examples.

In fact, it is from as long ago as 2016 that investors have left the asset class in droves, in part due to challenges around liquidity, i.e. the ease with which property can be converted to cash compared to other types of investments like shares in companies. Real estate investment trusts (REITs), which invest in and manage property on behalf of investors, offer a partial solution. The structure of the REIT provides the manager with a stable pool of investment which doesn’t require selling assets to provide liquidity since this is facilitated by trading shares issued on a regulated stock exchange., This makes them a popular way to access the asset class but, nonetheless, it has undoubtedly been a tough environment for the sector.

One of the biggest frustrations has been the fact many property trusts have seen their share prices trade significantly below the estimated value of the assets they own. The net asset value (NAV) of a trust is the total of its assets minus its liabilities.

The current bout of weakness initially started following the Truss Mini Budget of September 2022 and has been sustained after the Autumn Budget for growth of last year.

However, digging a little deeper, the picture is a little rosier than it might seem. There are many examples of REITs which operationally are very sound and benefit from stable and dependable income returns due to their strong occupancy, which in turn is driving rental growth.

Picton Property Income is a REIT investing in UK commercial property. It is one example of a diversified portfolio that has benefited from its move towards the industrial sector whilst reducing its allocation to retail spaces and offices.

Elsewhere, in the specialist property space, Assura Plc, a REIT which invests in and develops property for healthcare, including facilities for GPs and the NHS, is another success story. The predominantly government-backed rental payments have the potential to make for a very stable income stream.

Its recent acquisition of private hospitals has diversified the portfolio and comes as the UK government is working to help the NHS and independent providers improve waiting times.

We are also seeing increasing signs of takeover activity. On Monday 10, it was reported Assura would consider a £1.61 billion offer from US private equity group KKR and Stonepeak Partners. This is just one example of growing recognition for these types of REITs.

With transactional evidence that a recovery may be underway, have we passed the low point in valuations? Maybe.

The longer the disconnect between share pricing and property values persists, the more likely it is that consolidation in the sector will continue, and we could potentially see the UK listed property investment sector shrink.

But we still believe the sector could reward long-term investors who remain patient with the potential for an attractive dividend and some capital growth in the interim. After all, many of today’s UK REITs have weathered the economic cycle and have been able to maintain, and in some cases grow, a regular income stream despite the headwinds experienced along the way. Whilst the allure of exceptional returns has drawn the gaze of investors away from the domestic market, it’s not too late to re-evaluate the potential opportunities closer to home.