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Why the UK’s Residential Rental Market is a Good Investment Opportunity

Posted by: Ekalavya Hansaj Updated: 21 April 2020

The UK is known as a country where people prefer to own their home rather than rent. While that’s still true today, property values and a shortage of home building has made this a tougher dream to realise for lots of people living in the country. Against that backdrop, renting has become more prevalent in recent years, and with no catalyst insight for property prices to fall, it is expected that this trend will continue.

The December 2019 election has resulted in a clear mandate to deliver Brexit. Now, the uncertainty that has paralysed the country in the past few years is gone. That suggests that more investors and private rental sector (PRS) landlords could be willing to grow their investment once again.

However, because of the increase in renting, expectations for tenant numbers will rise further in the future. This means the Build-to-Rent sector is also expanding. Thanks to interest from institutional investment it’s doing so at a fast clip. This broader rental landscape might be a worry to some PRS investors, but has helped ensure there is a reliable and regularly updated trove of interesting data and statistics. Among the stats available through the UK Government Website are figures on how housing tenure trends have changed.

The figures show that home-owner occupation rose steadily for around 25 years from the mid-1970s to the early 2000s from 51% in 1971 to a peak of 70.9% of the population who owned their own homes (either outright or with a mortgage). As you would expect, those in rented accommodation, either social or private rented, declined during that period, from 49% in 1971 to just 29.1% in 2003.

However, house prices were on the rise in the 1990s while mortgage interest rates were low and then in the 2000s values grew even more quickly. With earnings growth nowhere near keeping pace with double-digit house price gains, it began to be a little tougher to grab that first rung of the property ladder, particularly in popular city areas and picturesque village locations. Therefore, after years of rising property prices and climbing employment levels supporting the ability for more people to afford to buy their own home, the trend came to a stop and began to unwind slowly.

What Happened When the Credit Crunch Hit?

Then came 2008 and the global credit crunch, putting a firm brake on fast climbing UK property values. With the introduction of stricter mortgage lending rules were also introduced to help ensure banks had a big enough safety net behind them in case there was a repeat of banks making too big risks with their depositors’ and investors’ cash.

By 2008 the proportion of home-owner occupiers had slipped to 68.3%, more than 2% below the 2003 peak. Meanwhile, there were also changes afoot within the residential rental sector; more tenants were renting from the PRS than ever before, although at this point, social renting was still the most popular rental tenure.

The most recent data are for the financial year to the end of March 2018 when 63.5% of all households were home-owner occupiers, an increase from 62.6% in 2016-17, the lowest proportion since 1984. Meanwhile, the change that had begun in the rental sector had continued. Of the 36.5% of residential tenants in the UK, 19.5% were renting from the PRS with 17% living in social rented accommodation.

Today, house prices remain high, and uncertainty translated into less buying and selling activity. At the same time, years of underinvestment have left the UK with not enough homes for a population that continues to grow.

While property prices might remain little changed over the next year or two, they aren’t expected to decline. This provides an excellent opportunity for property investors to either move into the PRS or expand their existing Buy-to-Let (BTL) portfolio, with reasonable expectations for acceptable yields and eventually proper levels of return.

What Yields and Returns can PRS Investors Expect?

After that brief history of the UK’s residential rental market backdrop, the UK is now home to many portfolio BTL landlords. Some of whom became accidental landlords in the credit crunch aftermath which saw mortgage rates rise and lender deposit requirements increase and others who took opportunities to buy up more property when it came along and was too good to be missed.

The growing demand for rental homes didn’t go unnoticed and more investors, disappointed with pitiful savings interest rates and uncertainty in the more traditional investment markets drove even more investment into the BTL sector.

As more investors turned their attention to the PRS, it became more challenging to gain the types of annual rental yields that were possible in the 2000s. However, for properties in London, a popular location for tenants, investors can still expect yields over 3%, if they buy carefully. Meanwhile, total returns after five or more years, investment are typically higher, thanks to capital appreciation and rising rents.

Looking outside of London, annual yields at around 10% are still possible, although capital appreciation remains notably lower which will ensure total return at the end of your investment might not be as attractive as a London property. With many landlords preferring to look to yield over eventual ROI, a lot is going for portfolio landlords outside of the English capital.

The Rise of Build-to-Rent

As the change in tenure continues, boosted by a new generation who see positive reasons to rent, including the freedom it gives them, bigger fish have become aware of the growing demand for rental properties in the UK and also the lack of residential construction in recent years.

Institutional investment is something that typically requires a significant project to satisfy the demands of more enormous cash piles, and Build-to-Rent certainly provides that. According to the latest BTR update from global property management firm Savills, the sector grew 20% in the year to the close of October 2019, from the previous year.

Savills figures show:

  • There are now 148,000 BTR rent homes in the UK.
  • London is the most popular BTR investment location, followed by Manchester.
  • The average size of schemes has grown to 133 per project.

Separate data from data specialists CBRE show that in the past five years there has been £10.6 billion investment in the Build-to-Rent sector, with £2 billion of that invested in the first nine months of 2019. Research also suggests that average rental levels in BTR properties are typically higher than other PRS rent levels, something that’s welcome news to investors at least.

What Does the Future Hold for BTL Landlords?

The rise of big-money interest in the UK’s residential rental market is likely to create some tension for PRS BTL landlords. After all, new BTR homes are typically more modern and desirable among tenants who want to secure the best home they can afford. Meanwhile, the new rules and regulations UK landlords and property investors must follow to ensure they provide homes that are fit-for-purpose and are treating their tenants fairly are also considered a burden, by some parties.

Tax changes have made becoming a BTL investor a more expensive venture. You’d be forgiven for thinking the landlords who helped build the UK’s PRS and provide many much-needed homes for the population are likely to reverse their interest, reduce their portfolio and eventually exit the market. That would leave it open to commercial and institutional investors and mean BTL landlords must find different ways of topping up their pensions and find a new alternative to disappointing savings accounts interest rates.

However, with expectations of tenant numbers in the UK growing by 24% in the next few years, that’s a lot of people to home. Meanwhile, average rents could rise by as much as 15% by 2024. Even if big investors retain their interest in BTR and plough even more money into the sector, there’s room for BTL investors in the PRS. Indeed, their expertise at ground level will mean they can better cater to some types of demand than investors in large, modern rental projects.

Of course, with the current requirements for higher energy ratings on rental homes and other specifics, particularly concerning Homes of Multiple Occupation, (HMOs) a BTL landlord might find more initial work is required before they can rent their property to tenants. However, they will also be the owner of character properties that many people, including tenants, love to live in, in areas of cities that are popular but inaccessible for the more significant BTR projects that are gaining approval.

While that’s likely to mean that yields and ROI might not improve too much from current levels if it is good enough right now, then it should be good enough in the future also. That’s provided savings interest rates don’t unexpectedly improve overnight.

Plenty of Room for Overseas Investment

In the past couple of years as the British pound weakened against the US dollar and the euro, properties have attracted more significant overseas investment. Now that the pound has recovered somewhat, that currency-related discount is no longer as eye-catching.

However, thanks to the BTR sector, property investors based outside of the UK can still benefit from the expected increase in both demand for rental property and higher rents. That’s down to the still high number of investment vehicles around the world who can take advantage of the UK’s appetite for property and BTR construction, meaning exposure to this growth is available on numerous levels.

It’s likely that while rents might be higher for comparable BTR properties and that BTL landlords will have to share some of the yields and returns the UK’s PRS has to offer, the UK’s growing army of tenants will be to be the primary beneficiaries.

There are more rental choices across the UK and acceptance of longer tenancies for families, or those who simply prefer to rent than buy a home. Now, UK-based tenants will soon welcome the option to choose from ultra-modern convenience apartments or a characterful flat in a trendy part of the city of their choice. That’s not something that’s been on offer to many UK tenants before and will likely help support the long-term growth of the PRS, albeit at a slower pace than experts are currently anticipating.

Indeed, the latest data shows that the number of homes available for rent in the UK has actually fallen by 13% in 2019, from a year earlier. That development, in turn, has pushed rents higher during much of the year with various property bodies such as RICS, the Royal Institution of Chartered Surveyors forecasting upward pressure on rents will remain for the next five years, at least. That’s a combination that many rental investors would welcome.

As with most countries’ housing and rental markets, there are many developments, often over a short time that can often seem confusing and encourage investors to steer clear until things settle down. Or another investment option can appear more attractive, or at least easier to understand and invest in.

In the case of the UK’s residential rental sector, while there have been numerous developments and changes in recent years, including the past three amid Brexit and Political chaos, the case for investment into the PRS remains compelling. Even more so now the political deadlock has been broken, and the future is less fraught with uncertainty. That’s as much the case for UK-based investors as it is for those overseas.

it also opens up the market to overseas investors. All of which is positive for most investors and the tenants who will rent these homes across the UK.

How UK Household Tenures have changed

The UK is a nation which is obsessed with property. While that might not always be healthy, it

eka001

An entrepreneur who chased success till it chased him. Founder at Quarterly Global. Father to Mayra Hansaj and Husband to Anjali Hansaj. Author of “The Criminal Wolf” and “Rise of the wolf”. 114 Days in a slumber haunts me yet.

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