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London is one of the more vibrant multicultural cities in the world and has long been a leading light in the prime property market. Described by many as a market within a market, i.e. often moving in a different direction to the general UK market, there are many factors which move London property prices. Brexit, currency movements, taxes and regulatory changes have created a degree of uncertainty around London property over the last couple of years. However, overlooking the short term challenges the long-term attractions of London property still remain.
In what could be best described as a “self-fulfilling prophecy” so-called “experts” have been predicting a collapse in the UK property market from 24 June 2016 when the result of the EU referendum was announced. If we fast forward three years we will see that the general UK property market is still retaining an uptrend although the premium often attached to London property has reduced. No crash, no fire sales and no mass exodus from London!
Boris Johnson’s recent decision to prorogue Parliament has certainly caught the headlines and forced many of his critics to take extreme action to challenge his no-deal Brexit strategy. This has caused an increased degree of uncertainty across investment/money markets. However, many investors are beginning to appreciate the emergence of long-term potential for London property at current prices.
As you’ll see from the graph below, it has been a fairly volatile time for the London housing market since the unexpected EU referendum result. It is safe to say that in the summer of 2017 hopes for a swift resolution to the Brexit question were at their highest. Fast forward to June 2019 and London property prices are just off recent lows amid short-term uncertainty. At first glance this does give the impression that London property prices are under pressure, people are selling up and moving on. But is this really the case?
The graph below shows average UK house prices over the same period which have posted gains compared to the slight reduction in London prices. As we touched on above, some investors may well have taken advantage of the “London premium” to sell up and acquire larger properties in regional markets. However, this does not suggest the panic sell-off that some property experts have been predicting for the last three years.
The following graph puts the situation into more perspective, rebasing both average UK and average London property prices since the referendum. If we strip away opinion and emotion and look at the cold hard facts, London property is in relative terms 8% cheaper than the UK average since June 2016. However, this is not the whole picture.
The following graph shows the performance of rebased UK property prices compared to London property prices since 2002 (when the Land Registry made available monthly property prices). This perfectly illustrates the downturn in light of the US mortgage crisis in 2008 and the faster recovery in London prices from 2011 up to 2016. Since then average UK prices have continued to rise while London has been treading water. The signs are all there, the relative attractions of London property compared to the rest of the UK are improving.
We will now take a look at property transaction numbers since the referendum in 2016 which makes for very interesting reading when comparing the UK and London. As you will see from the graph below, the number of property transactions (both rebased to 100) in London has fallen by nearly 40% since June 2016. Over the same period, the number of property transactions across the UK has shown a gradual increase indicating that the much expected sell-off of London property is just not happening. Indeed, it would appear that London property owners are not overly enamoured with the recent market trend and reluctant to sell at current values.
The situation is very similar when it comes to prime property although we don’t necessarily have the same level of information available. However, numerous press comments from London based estate agents suggest the same type of trend. A lack of sellers has increased competition in the London prime property market thereby supporting prices to a certain extent.
Under pressure from opposition political parties, Conservative governments of recent times have been forced to introduce an array of additional charges/taxes for so-called “non-doms” and overseas investors. Amid unfounded allegations that overseas investment in London property was pushing prices beyond the reach of domestic investors the pressure for change was unrelenting. How did the London property market react?
History shows that the London property market has an entrenched ability to adapt to quick changing scenarios. The increase in charges/regulatory changes relating to overseas investors saw the markets pause, absorb and adapt to the new landscape. The introduction of increased stamp duty for UK investors was also seen as a means of slowing down demand for London property. Again, this was absorbed and the market adapted very quickly indeed.
The issue of exchange rates has also become a focal point for overseas investors looking to acquire UK property. Since the 2016 referendum sterling has fallen by 17% against the dollar and 14% against the euro. If we look further back at exchange rates there was a time when there were $2 to the pound and €1.7 to the pound. While the fall in the value of the pound against the dollar and the euro has been fairly dramatic since the referendum, this has been a long running issue for sterling.
It is also worth noting that while much focus has been on the UK economy, the European economy is not exactly setting the world alight. Germany is on the verge of recession, France recently pulled back from a similar situation but the signs are not good while the likes of Spain and Portugal are still struggling. Media headlines might suggest that the UK economy is slipping into recession but many believe this is simply a “self-fulfilling prophecy” as a consequence of Brexit uncertainty. Since the 2016 referendum, the UK has been one of the stronger economies within the European Union even despite this ongoing uncertainty.
At this moment in time, the UK base rate is 0.75% with only one upward movement over the last decade. Prior to Brexit there were suggestions that base rates would move higher to combat the threat of inflation and a buoyant economy. This train of thought has been replaced by an acceptance that Brexit will cause some short to medium term uncertainty with suggestions that base rates could move lower. We are a far cry from the heady heights of 1979 when base rates hit 17% or more recently 1989 when they hit 15%!
Experienced observers suggest that UK base rates will remain near historic lows for some time to come. As a consequence:
These are two very positive developments for the UK property market. As mortgage rates are directly related to the base rate/money market rates we are unlikely to see any significant increases in the foreseeable future. As the interest paid on bank accounts is minimal to say the least, wealthy investors will be more attracted to property investment and rental yields which are significantly higher.
Whether you are a domestic investor, expat or foreign national, the UK has an extremely liquid mortgage market. Traditional banks, private banks and niche lenders are all in competition to provide funding for various types of property investments. Even though some traditional banks have reined in their lending, this vacuum has been quickly filled by private banks and niche lenders who are often more flexible in their approach.
Therefore, as a consequence of relatively low interest rates and growing demand for property, mortgage availability is high. The key to securing mortgage funding is to create a bespoke package around an investor’s individual financial situation. This ensures maximum funding while maintaining a degree of headroom between mortgage liabilities and cash flow. It is also useful to use additional assets as security which can have a positive impact upon headline interest rates and funding terms.
The recent Coutts Bank report into London prime property offers an in-depth look at the current state of the market. Some of the factors to consider include:-
Historically the vast majority of London prime property investors have looked towards capital gains as opposed to any great emphasis on rental income. The situation has changed a little in light of Brexit and other concerns. Many people will be surprised to learn that the average rental yield for London prime property currently stands at 3.9%. This is a far cry from the sub 2% rental yields seen during more buoyant times.
London prime property prices increased by 3.1% between the end of 2018 and June 2019 which is more or less where they were 12 months ago. The average discount to asking price improved from -12.7% in the first quarter of 2019 to -11.1% in the second quarter. When you put together the increase in prices and the reduction in the average discount there are tentative signs that buyers are returning.
As we mentioned earlier in the article, many sellers appeared to be sitting on the sidelines leaving a smaller pool of property for buyers to fight over. This graph perfectly illustrates the point:-
However, sales activity increased by 21.4% in London prime property between the first quarter and the second quarter of 2019. It is also worth noting that London prime property prices are still 14.5% below their peak of 2014.
As you will see from the graph below, since the final quarter of 2015 there has been a relatively strong downtrend in London prime property prices. Recent indications suggest this trend bottomed out towards the end of 2018 and the first six months of 2019 have seen two positive quarters. On its own, it may be a temptation to suggest this is a short-term bounce. However, when you also take into account increased transaction numbers and relatively attractive rental yields this may well be a turning point.
There is no doubt that ongoing Brexit concerns have cast a shadow over the London prime property market. On the other hand, the devaluation of sterling since the referendum has made London prime property much more attractive to overseas investors. The reduction of 17% against the dollar and 14% against the euro, together with the actual fall in sterling prices, has not gone unnoticed by overseas investors. When you also consider that the average London prime property now has a rental yield of 3.9% there are also attractions to domestic investors.
The UK financial sector is an integral part of the London economy and the UK as a whole. While changes do seem likely in light of Brexit and the U.K.’s exit from the European Union, London will still remain one of the major financial centres of the world. Away from the headlines, the European Union and London have already put in place agreements to stabilise financial markets in the short to medium term. We know there are literally hundreds of billions of euro denominated loans up for refinancing in the short term and London will again be central to these transactions.
It is also worth noting that London prime property has historically traded at a premium. In the good times, his premium is extended while in more difficult times it retracts. Therefore, the recent fall in London prime property prices is made up of both natural consolidation in prices and a reduction in the London premium.
Many investors will see this as an opportunity to acquire property in one of the world’s more vibrant multicultural and forward-thinking cities. There is now the opportunity to acquire London prime property with rental yields around 4% and the potential for significant long-term capital growth. There are few property markets around the world which can match London in its ability to develop and adapt to changing environments.