American Dream: US investors are targeting the UK PRS market, but will they get the returns?
William Astor, 12 November 2019
According to CBRE’s UK Residential Investment report, 2018 saw a record total of £3.1 billion institutional investment into the UK PRS sector, representing a 33% increase on the previous year. These are staggering figures for a relatively nascent sector still in its infancy compared to the more established real estate sectors.
The performance of the UK’s PRS market is showing no signs of abating in 2019, with the volume of capital committed set to grow at an even faster pace, increasingly attracting overseas investors seeking income from a secure and stable asset class.
As an early entrant to the market, Long Harbour has invested over £400m in the private rented sector over the last six years. Indeed, we have just secured our latest investment joint venture which has an initial £500m of capital to deploy in schemes across the UK over the next two years.
Based on our recent experiences fundraising across a range of territories, the appetite from international investors for the UK PRS market is strongest in Asia, Scandinavia, and, particularly, North America.
Our own experiences are echoed by CBRE’s UK Residential Investment report, which highlights that in Q4 2018 there was £33.8 billion of institutional equity targeting the UK’s PRS sector over the next five years, an increase of £190 million on the previous quarter, with capital from the US accounting for the entirety of this increase.
Indeed, equity from the US now accounts for almost half of the total money targeting the UK’s PRS market. Domestic equity accounts for a quarter of the total (£8.1 billion) with a further £5.1 billion from Asia and £4.8 billion from Europe and the Middle East. However, most of the capital committed in 2018 originated from UK investors.
Why are US investors so attracted to the UK PRS market? In North America the whole multi-family residential sector is much more mature, so their pension funds understand the dynamics, are comfortable with the concept, and take an opportunistic, value add approach targeting high returns with leverage. The UK pension funds tend to adopt a more cautious approach and are more circumspect around data and performance, while Brexit is to an extent dampening appetite among the pan-European investment community.
US investors are also being pushed to look abroad by a slow-down in their own domestic market. The US multi-family sector has in recent years seen a boom in development projects, which from around 2016 has resulted in a glut of high quality and amenity-led developments in American cities. This has resulted in flat rental growth and lower yields in US multi-family assets, and in turn has incentivised US investors to look towards the UK.
While there is great interest and capital available from the US, it is actually very difficult for those investors to achieve the high level of returns they are looking for in the UK. Looking abroad means greater risk, and so typically US investors expect returns of 12-14% and their investment horizon is shorter-term than that of other international investors.
While the UK market is buoyant, with good yields and prospects for rental growth, these returns are hard to achieve, even for the most experienced domestic UK investors. US investors are certainly here, setting up teams on the ground, but the opportunities are proving hard to find. Canadian, European and Asian investors by contrast are much better placed to take advantage of the UK’s PRS market because they are more willing to take a longer-term approach.
Is UK PRS set to emulate the US multi-family market?
Will the significant interest in the UK PRS market mean that we will face the same glut in high-end rental developments as the US did? I believe this is very unlikely, because the supply constraints in the UK will continue. The UK is not as efficient as the US when it comes to getting new developments built quickly, with the planning system among other factors acting a natural constraint on new projects.
Traditional asset classes are more vulnerable to market conditions, such as a downturn in the economy impacting corporate requirements for office space, or the boom in e-commerce reshaping the future of retail. Conversely, the global macrotrends of a growing population and urbanisation underpin build to rent; there is a housing crisis and people are always going to need a place to live.
While concerns about policies such as rent control are always in the background, it is not acting as a barrier. If we look at rent controls historically and globally, we see that the intent to address the unaffordability of housing is there, yet the desired outcome is rarely met. Institutional investors bring a professional and responsible approach to investment and the benefits of this should be embraced and not hindered. Of course, fairer, more transparent terms for landlords and their tenants will always be more favourable, so longer rental terms and inflation link reviews work for both tenants and investors.
The challenge for the UK market is to create the right mix of PRS product, without concentrating only on the most high-end developments. All parts of the rental market must be catered for, and investors and developers will be rewarded for meeting this demand. In this respect we should look in part to the German multi-family market, which is very functional and caters well for mid-market renters and families.
With an increasing focus on income return, the UK residential sector is attracting the big US players. But the UK market is very different, and its ‘Americanisation’ may be overstated. The smart international money will maintain a long-term approach, target realistic yields, and seek diversified PRS portfolios that appeal to mass market renters.
William Astor is Co-Founder and Chief Executive of Long Harbour, the UK and European real estate and asset-banked investment manager.
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