Download The World is our Oyster Second Quarter 2000

4th Aug. 2016
UK COMMERCIAL
PROPERTY UPDATE
Could monetary policy prop up capital values?
•
As expected, the MPC today voted to cut Bank Rate by 25bps to 0.25% and to restart its asset
purchase programme. This should underpin the recent movements in sterling, gilt yields, and equities,
and help to counter any concerns about the rental outlook, further weakening the case for a broadbased property repricing.
•
The slump in some business surveys since the referendum has pushed the MPC to announce a raft of
measures to support the economy. For a start, the Bank of England cut Bank Rate by 25bps, to 0.25%.
In addition, a new bout of asset purchases, or QE, was unveiled. The programme will include
purchases of £60bn worth of gilts and £10bn worth of corporate bonds. In all, this was roughly in line
with our and the markets’ expectations. And although small, today’s cut was accompanied by a Term
Funding Scheme to maximise the pass-through to borrowers.
•
Today’s measures should support property in a number of ways. Firstly, portfolio rebalancing will
allow investors who held gilts or corporate bonds to reinvest the proceeds of their sales in riskier
assets, including property. That said, the latest round of QE is likely to have a smaller effect on property
values than the previous bout, running from 2009-2013, as all-property capital values are now 26%
above their 2013 low.
•
Secondly, the asset purchase programme provides a clear signal that the Bank is committed to
supporting economic activity through monetary stimulus. This should be reflected in lower interest
rate expectations as well as lower sovereign and corporate debt yields, making property yields look
more attractive on a relative basis. In fact, even before today’s announcement, the 40bps fall in 10year gilt yields seen since the referendum has helped the property-to-gilt yield spread to widen close to
record high levels. Meanwhile, after a post-referendum dip, equity markets have mostly recovered on
the expectation of monetary stimulus. This has reduced equity divided yields, making property
valuations look slightly less frothy compared to stocks. (See Chart 1.)
•
A lower exchange rate could also help underpin investor demand. Indeed, cable fell by 2% in the
immediate wake of today’s announcement, bringing the cumulative fall seen since June 23rd to 11.5%.
(See Chart 2.) At the margin, this will make sterling denominated income streams, like the ones
purchased by property investors, cheaper. This is crucial since overseas investors have accounted for
more than half of commercial property purchases over the last year.
•
Admittedly, QE is a blunt tool, and it will not address sector-specific concerns, such as the ones around
the City office market. That said, with the future shape of UK-EU relations still in the balance and the
possibility of a “Brexit-light” arrangement still on the cards, we would not treat the loss of passporting
rights as a certainty.
•
Not only has the softening in the economic outlook forced the MPC to act, but it has dented rental
growth prospects too. However, the MPC’s response should, by making valuations look more
attractive, limit the impact of any upward pressure on property yields.
Eduardo Gorab
Property Economist (+44 (0)20 3595 4429, [email protected])
Chart 1: All-Property Initial Yield Minus 10-Year Gilt Yield and
All Share Dividend Yield (Bps)
600
600
v equity dividend yields (LHS)
v 10-year gilt yields (RHS)
500
Chart 2: Sterling to US Dollar Exchange Rate (£ per $)
1.5
500
400
400
300
300
1.4
Spot rate at
12:15
1.4
200
100
200
0
100
0
1993
1.5
Referendum
1.3
1.3
1.2
1.2
-100
1996
1999
2002
Sources – IPD, Thomson Reuters
2005
2008
2011
2014
-200
Source – Thomson Reuters
UK Commercial Property Update