Over the past three years, investors have watched with bated breath as the UK struggled to crystallize a favourable Brexit deal.  The lack of clarity on Brexit and its implications for the country has led to mixed reactions in the London real estate sector.

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Commercial assets saw record-breaking transactions in the second quarter of 2018, while construction of new office buildings reached 13.2m sq ft in May this year, 12% higher than six months ago, according to a survey by Deloitte. Of the buildings under construction, 55% of the space has been pre let. Despite the uncertainty, institutional investors continued to show confidence in London as a global commercial hub, taking a medium to long-term view. In particular, for foreign corporations, Sterling’s weakness presented the opportunity to invest into a global market at a favourable rate.

8 Finsbury Circus was recently sold to Singapore Group Stamford Land  |  Image credit: Wikimedia Commons

On the residential front, however, the sentiment was vastly different. House prices have fallen steadily and are now 6.4% below their July 2017 peak. Amid fears that the market would crash following a no-deal Brexit, local buyers either elected to rent or sought substantial discounts when purchasing a home. Foreign investors have also been deterred by additional stamp duty and punitive taxes for buy-to-let landlords. As a result, home prices fell 4.4% year-on-year, the fastest rate since the financial crisis in 2009 when home prices fell 7%. Given the lack of activity in the market, developers faced a glut of new build homes. Not surprisingly, the number of new build projects fell 41.4% y-o-y in July 2019, according to Molior.

Homes needed

While sales have fallen and many developers are sitting on unsold stock, all signs still point to an overall housing shortage. According to London Mayor Sadiq Khan, 66,000 homes need to be built yearly in order to meet the housing needs of the City. Between March and May 2019, 7,088 new homes were registered with the National House Building Council. This is more than double the number of homes registered within the same time period last year, but still significantly lower than the Mayor’s target.

Several factors have contributed to the sluggish sales market in spite of the shortage of homes. Home prices have been unaffordable for some time, with the average cost of a home over 14 times the average salary of a Londoner. As such, some view the slowdown as a natural correction in the market.

Most apparently, Brexit jitters have dampened sales in both the domestic and foreign investor market. Owner-occupiers and investors alike have held off buying in anticipation of more favourable prices: should there be a no deal Brexit, it is anticipated that home prices will be adversely affected. However, as the political uncertainty continues to drag on for longer than anticipated, it seems that homebuyers are now back on the market. New build buyer confidence in Q2 2019 has risen to the highest level since mid-2017, according to the Home Builders Federation, as those who genuinely need a home decide to wait no longer.

The rise of the rental market

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Another contributing factor is also the changing preference of a younger demographic. With the millennials now in the workforce and looking for a place to stay, many are opting out of the buyers’ market completely, favouring more short-term arrangements with lesser financial commitment upfront. The rise of generation rent has led to an increase in demand for rental homes. Lifestyle changes including increased geographical mobility, flexible working arrangements and the lack of affordable housing options has given rise to the preference to rent instead of being saddled with hefty mortgage payments. PWC has even predicted that by 2025, one in four households will be living in a privately rented property.

As such, while house prices and transaction volumes have fallen, rental yields are rising steadily.

This has prompted many institutional investors to enter the Private Rented Sector space. According to JLL, the total investment into the PRS sector in the UK has risen over 150% in 2018, with investment volumes in London at €2bn, nearly doubling that in 2017.

Given lower asking prices, a brisk rental market and strong yields, could it be an opportune time for individual investors to reconsider buying to let?

The opportunity for foreign investors

For foreign investors, the age-old strategy of buying apartments off-plan and selling them in the market just before completion would not be applicable in today’s market given the lack of capital appreciation. Moreover, the present market is simply not able to absorb more stock.

Coupled with the low interest rate environment, it is an opportune time to find attractive investment opportunities in the market, if one is willing to take a medium to long-term view.

As shown in the table below, Sterling has fallen significantly against a basket of currencies when compared to pre-financial crisis rates. Over the last year, it has continued to tumble. With the event of a no-deal Brexit more plausible than ever, Morgan Stanley predicted that Sterling could fall to parity with the US dollar.

Change in Currency Rate Against GBP (%)

Source: investing.com

Based on the above table, purchasing a residential property today appears timely and a very compelling proposition for Asian investors.

Change in London Average Home Price (%)

Source: investing.com; HPI

While real prices have increased 80% for an average home in London since 2007, currency-adjusted prices have only risen 3.6% in SGD. Most notably, prices for Thai investors are almost at pre-financial crisis levels, at a marginal 1.9% increase.

While the restrictive taxation measures still exist, more sensible pricing, Sterling’s weakness, shorter void periods and longer leases, make it possible to achieve strong yields in commuter towns and Greater London areas where there is a need for homes. Moreover, for Asian investors, should the market recover, a rebound in price coupled with strengthening of GBP will only serve to compound capital gains.

The London residential market has endured a protracted slump, but the fundamentals offer a glimmer of hope. All things considered, it might be timely to take a closer look at the London residential market and what it currently offers.