21 October 2019
Expert opinions combined with solid market data indicate that the best investment opportunities currently lie outside London and the South East. But how long will this last?
Suppressed demand
The factors that underlie house price movements are well-known. However, the relative importance of each factor is rarely easy to discern.
Most observers no longer talk about the housing shortage; it seems that this has lasted so long, and is so far from a solution, that it is just ignored.
The burning question of our time, Brexit, gets more of a mention. About a year ago some economists were forecasting that a hard Brexit would lead to plunging property prices. Most disagreed, however, and surveyors were much less pessimistic, producing forecasts that assumed that the UK would reach an agreement, followed by a transition period, and ultimately a trade deal.
In the last few months, however, the Brexit crisis has affected sentiment generally. According to the September 2019 RICS UK Residential Market Survey, political uncertainty is suppressing demand in the housing market. New listings (sellers instructing estate agents) having remained flat for three months, and fell again in September, reaching their lowest level since June 2016. Stocks (the number of houses for sale per surveyor) fell to 40, almost the lowest level on record. Before the crash of 2008, it was 90. There is evidence that the 'Brexit effect' is more pronounced in London and the South East than in the rest of the UK.
Not a clear picture
Ultimately, house prices are most closely related to household finances, and therefore to expectations of future earnings growth and interest rates. This is not a clear picture. Recent years have seen below-inflation earnings growth, which should exert downward pressure on house prices, but also very low interest rates (typically less than 2% for a two year mortgage) which tend to push prices higher.
More tenants – higher rents?
The residential lettings market has also been subjected to opposing market forces. Globally, falling rates of return on bank deposits and bonds have encouraged investors to seek better yields by acquiring let properties. On the other hand, in the UK, largely due to tax disincentives, residential landlords have been divesting, while at the same time the unaffordability of houses for owner occupation has led to an increase in demand from prospective tenants. According to RICS, September was the eighth month in a row where demand increased. Rents are expected to increase by 2% over the next 12 months and by 3% p.a. until 2024.
London out of step
As always, London is generally out of step with the rest of the country. Anecdotally, it is more affected by the current political uncertainty. Demonstrably, it has the highest house price to income ratio in the UK. For the same reason, rental yields tend to be lower in London than elsewhere. Since 2013, yields have decreased across the country, but fastest in London.
What rate of house-price rises can we expect over the next few years?
According to research by Savills, an estate agency, the expected increase in mainstream (not prime) house prices between 2018 and 2023 is 14.8%. This headline figure, however, hides large regional disparities. Prices in London are forecast to rise by only 4.5%, whereas the highest rises (of up to 21.6%) will be experienced in the North-West, Yorkshire and Humberside, the Midlands, and Wales. More recent historical figures for the last three months produced by RICS, illustrate that so far these predictions have been broadly accurate. In the last quarter, the best regional performers have been the North, Northern Ireland, Scotland and the North-West. Only the region of Yorkshire and Humberside seems to be falling short of expectations.
The North – for now.
There are several reasons for greater optimism with regard to Northern cities. In some cities, house prices have only just recovered from their pre-financial-crisis levels, income-to-house-price ratios are lower, giving scope for growth, and there is better demand in the owner occupier sector. All these factors are beginning to attract interest from private and institutional investors.
Rental expectations show a similar regional distribution. Rent rises are expected to be greatest in Yorkshire and the Humber over the next three months, driven by the shortage of properties. This is followed by Scotland, the Midlands, the North, and Wales.
Clearly the Midlands, the North of England and Scotland are more attractive for residential property investment than London for the time being. Long-term predictions are, however, currently more than usually unreliable. Theoretically, a Brexit deal that is benign for business could revive positive sentiments in London, reversing recently flat price trends. Equally, a steady rise in interest rates could slow the rise in prices. As with all investments, the answer is a calculated risk.
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