The shortage of affordable housing in the UK, especially in areas within reasonable distance of centres of employment, is a perennial issue in British politics. For decades, housebuilding has failed to keep up with demand, which has driven rents and prices ever upwards.
The reasons are complex. Planning restrictions have played a role, though the ability of local authorities to block development has lessened. Housebuilders today aim to maximise profits, not output. Following the financial crisis, banks have also toughened their lending rules, requiring significant deposits that few first-time buyers can afford. But most important has been the decline of social housing construction. All this, together with the dismantling of rent controls in 1988, has in turn led to such rapid growth in the buy-to-let market that private rentals now account for 19% of all housing.
Inevitably, there are entrepreneurs who see the imbalance of supply and demand as an opportunity. Hence the PRS Reit (private rented sector real-estate investment trust) is seeking to raise £250m to invest in new-build housing, mainly for families. The company targets a dividend yield of 6%, and total shareholder returns of 10%. These numbers sound attractive, but there are reasons for concern.
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The projected net return of 10% is after costs, which include maintenance and management, as well as voids from empty properties. Low-cost debt, estimated at 35% to 40% of gross assets, raises shareholder returns, but the implied return on each rented property is still close to 10%. Tenants may find renting is much more expensive than buying. PRS's target tenants are families struggling to get a mortgage, but on these figures they be better off if they could.
PRS is sourcing much of its portfolio from Sigma Capital, an Aim-listed developer that has built and let more than 1,100 homes in the past 30 months. Sigma also owns PRS's fund manager, leading to a potential conflict of interest. The independent directors and the government's Homes & Communities Agency, which is investing £25m as a cost-effective means of boosting house-building, will need to keep an eye on this.
At this stage, investors don't know what the portfolio will look like, except the first purchase will be for 221 homes on a 60-acre regeneration site in Liverpool, comprising 829 homes. With thousands of homes still lying empty in Liverpool and the average price of a terraced house not much more than £100,000, this is not an area where housing is manifestly in short supply. More generally, there must be a concern that PRS will end up developing the plots that buy-to-sell builders don't want.
Finally, investors should worry about the constantly changing legislation covering rental property. It might seem inconceivable that a Conservative government would introduce rent controls or a freeze, but you would have said the same about utility prices until a few weeks ago. The introduction of "right-to-buy" in the sector is also a threat. Optimists should at least wait for a secondary issue in a year or two, when PRS will have an invested portfolio and a track record. Sceptics including me will steer clear for much longer.
Max has an Economics degree from the University of Cambridge and is a chartered accountant. He worked at Investec Asset Management for 12 years, managing multi-asset funds investing in internally and externally managed funds, including investment trusts. This included a fund of investment trusts which grew to £120m+. Max has managed ten investment trusts (winning many awards) and sat on the boards of three trusts – two directorships are still active.
After 39 years in financial services, including 30 as a professional fund manager, Max took semi-retirement in 2017. Max has been a MoneyWeek columnist since 2016 writing about investment funds and more generally on markets online, plus occasional opinion pieces. He also writes for the Investment Trust Handbook each year and has contributed to The Daily Telegraph and other publications. See here for details of current investments held by Max.
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