Wellian Weekly 06.04.2020

Property in Lockdown

In the last few weeks equity markets have stolen the headlines with some dramatic movements in share prices that have rivalled those of the GFC. Also, in common with that period, we have again seen the suspension of property funds - although this time around managers are at pains to point out that it’s not for want of liquidity. 

It did not take long for the impact of the coronavirus to really begin to bite. As the UK made plans to transition to remote working on an incredible scale, property funds were forced to suspend en-masse. The suspension affects retail and institutional vehicles; over 40 funds in total. In a world where we rely increasingly on electronic and digital communication, property could almost be a curiosity: the asset class still relies heavily on person to person meetings for almost every step in the process from due diligence and valuations to market making and legal. As business lockdowns came into force, it became very difficult for the asset class to continue to function normally. 

Valuers became unable to visit properties and had very little clarity about the strength of occupier covenants, which combined with the paucity of transactions in the marketplace, meant there was little evidence to support valuations. Under the circumstances, the move taken was to trigger the material uncertainty clause, usually reserved for situations where there has been a natural disaster or a war, it is property’s equivalent of a big red emergency button. The decision to suspend was backed by the FCA as funds cannot ensure customers are being treated fairly if there is uncertainty about the price of the underlying asset.

Although working remotely, the day-to-day management of properties is still taking place, with managers engaging in rent discussions with tenants. For some occupiers that are impacted, managers are offering payment options such as monthly payments (as opposed to quarterly), with deferment or rent holidays for those that are more severely affected. New lease agreements are also being completed and signed off by digital signature - the validity of which has been debated in the industry for years but is now likely to be widely accepted and a perk of the situation. We have also discussed the potential for other trends to accelerate as a result of the crisis: not just the trends in retail, but also the potential for office space requirements to shift. With that in mind, we are cautious about relying too heavily on traditional risk metrics, which might not perform well in this environment. 

In contrast, the liquid part of the property market has seen intense pressure and volatility. Bank lending to the sector will be impacted, and a combination of high gearing and low levels of rent collection in property companies is absolutely toxic. Reports that shopping centre owner Intu had managed to collect only 29% of the rent due at the end of the first quarter made for grim reading, but it has been news that marquee retail tenants across Europe have been failing to pay the rent that is really a cause for concern for any manager with a lot of exposure to the retail sector. 

Although the coming months will be incredibly challenging for property managers, we expect that they will balance the needs of investors in regard to collecting rent, with the need to be a fair landlord. Looking beyond the crisis, it makes sense for investors to sacrifice some income in the near term, to ensure that there are healthy businesses that can pay the rent and provide income in future.  

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