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Q1 Market Overview – Spring Tides

5 April 2019

As the EU departure date of 29th March has been passed, and political events lurch from one constitutional crisis to the next, it is obviously problematic to predict short term outcomes from the current House of Commons deadlock although further delays are now inevitable. The one thing that our elected politicians currently agree on is that they can’t collectively agree on anything. The uncertainty caused by Brexit is however helping some parts of the economy whilst hindering others, and as a whole the UK economy remains resilient against the volatile political tides.

The economy started 2019 well with the monthly rate of GDP growth rising from -0.4% in December to +0.5% in January. Whilst the Markit/CIPS manufacturing survey in March suggests that output rose in Q1, business and services activity is unsurprisingly expected to slow in the next few months, and history shows it can take up to a year for business investment to recover after a period of uncertainty (Source: Capital Economics 3rd April 2019).

With consumers appearing to be relatively unfazed, household spending growth only slipped to 0.3% in Q4 2018, and the labour market has remained a bright spot so far in Q1 with the unemployment rate falling from 4.0% in December to 3.9% in January, a 44-year low. Financial indicators show that global economic performance is having as strong an underlying impact as short term UK uncertainty, although clearly Brexit continues to weigh heavily on the prospects for the economy and UK assets.

UK PROPERTY MARKET

Against these political anxieties, UK property is a primary capital flight destination, heavily influenced by a weight of global capital which is attracted by a devalued sterling (albeit somewhat volatile), market transparency, relative liquidity, low interest rates and a current benign monetary policy.

The underlying UK demographics are fundamentally strong with a growing population and record employment, and moreover the UK property yield remains attractive relative to bonds. The spread between the 10 year bond yield and property equivalent yield is currently around 400 basis points, and property remains significantly less volatile than equities.

Source: MSCI, Bank of England

For the calendar year ending 31 December 2018, total returns for all UK property were 6.0% compared with equities at -8.8% and bonds at 1.6%. UK property provides a high income return of circa 4.6% per annum. Property transactions for the same period still totalled £62 billion, only slightly down from £64 billion in 2017, but still ahead of the 3-year rolling average, demonstrating the strength of the investment market for UK core product.

Source: Savills Research, Property Data

SECTOR SELECTION IS CRUCIAL

Industrial continues to outperform all other commercial sectors and overall returns from commercial property mask significant sector variances, most notably with high-street retail suffering from a long term structural malaise due to the internet transforming modern society. This in turn has revolutionised demand for logistics and industrial space with a predicted 112 million sq ft of additional space needed to satisfy ecommerce growth alone over the next 10 years.

Source: Liberium, ONS, Amazon, Ocado. Based on sales and industrial floorspace of Amazon and Ocado.

SUMMARY

There are good arguments that the UK market is showing “late cycle” features with rental growth expectations diminished and assets fully priced. However structural changes in the industrial and retail sectors (positive and negative respectively), combined with a lack of high quality leasing space, available quality investment stock and new development, provide for robust demand for assets with transparent occupier demand and long income streams.

As recent achievements and experience in the Barwood Capital portfolios show, creating secure income with growth potential in favoured sectors achieves attractive pricing from long term investors as well as securing income growth to drive investment performance.

It is against this overall background that buying opportunities will continue to emerge for both development land and built stock in the right regional locations offering longer term economic growth and infrastructure investment. Barwood Capital will continue to pursue its ability to source well-priced and off-market opportunities focusing on demand in the industrial sector, the alternatives market benefitting from long term changing demographics, housing demand, and the UK regions which offer growth from investment in road and rail infrastructure (e.g. the Oxbridge Growth Corridor), and both a diverse range of sectors and available labour supply.

Source: Bidwells

 

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