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Why real estate is back in demand as the anniversary of referendum nears

One of the areas worst affected by the EU referendum was the UK property sector whose performance is dependent on the health of the economy. Many of the real-estate investment trusts (REITs) suffered sharp falls in their share prices, but confidence has improved due to the resilience of the economic data.

Neil Woodford thinks that people are too downbeat about the UK economy and has included the NewRiver REIT (NRR) and British Land (BLND) as two of the fifty holdings in his new CF Woodford Income Focus Fund (GB00BD9X6796).

In a recent update he said that he was keen to capture some of the contrarian opportunity he currently sees in domestically-focused cyclical stocks, which he believes have become too cheap to ignore in the wake of last year’s Brexit vote.

The NewRiver REIT specialises in the UK retail and leisure sector, but recently announced a fall in annual pre-tax profits from £69m to £37.4m due mainly to a £24m reduction in the value of its property portfolio. It is yielding an attractive 6.2%.

British Land is one of the country’s largest REITs with a market value of £6.5bn and owns, manages and develops a portfolio of properties around the UK. The shares are trading on a 30% discount to the latest NAV of 915p and have a prospective yield of 4.7%.

Russ Mould, investment director at AJ Bell, says that it is no surprise to see such a huge discount tempt Neil Woodford.

‘It suggests a lot of the potential bad news may already be priced in, while Woodford himself has publicly stated that he does not think Brexit will be a huge negative for the UK economy, so he will be taking a view that the shares are oversold.’

The large, generalist REITs like Land Securities (LAND) and British Land are typically trading on sizeable discounts of 20% to 30% to NAV, whereas many of the direct property investment trusts are trading on small premiums.

‘The big FTSE 100 REITs still have exposure to new developments or major refurbishments (which makes them more risky), whereas the direct property investment trusts do not, focussing instead on managing their existing assets and the rental yield on them,’ explains Mould.

ariel view of new houses being built.

Property investment trusts

The closed-ended nature of investment trusts makes them an ideal vehicle to invest in the physical bricks and mortar as in the normal course of business they can never be forced into selling the properties to meet client redemptions. They can also use prudent levels of gearing (debt) to enhance the returns and revenues.

Alan Brierley, director of the investment companies team at Canaccord Genuity, says that given the IPF UK consensus forecast average annual total return of 5.2% over the next five years, he believes that asset management will be a key driver of alpha.

‘In this environment, we believe the entrepreneurial style of asset management of Ediston Property leaves it well placed, and these fundamental attractions are enhanced by the current discount. UK Commercial Property also offers good relative value.’

The £141m Ediston Property REIT (EPIC) invests in a diversified portfolio of office, retail and industrial properties in the UK. It was launched in October 2014 and is yielding 5% with monthly dividends. The shares are trading close to par value.

His other selection, the UK Commercial Property Trust (UKCM), was launched in September 2006 and has a market value of £1.14bn. It owns 42 properties across the UK with a bias towards prime, institutional quality buildings. The fund has a conservative approach to gearing (capped at 25%) that has helped to preserve value in difficult market conditions.

UKCM is yielding 4.2% with quarterly dividends and the shares are currently trading close to par value. It has a number of high quality tenants.

The investment company analysts at QuotedData have recently issued a positive update on the Drum Income Plus REIT (DRIP). The small £37m fund concentrates on acquiring properties overlooked by large institutional and overseas buyers.

Matthew Read, a senior analyst at QuotedData, says that DRIP targets lot sizes worth between £2m and £15m, and looks for second tier property assets in what the managers consider to be good, but not necessarily prime locations.

‘The managers believe that such assets offer marked yield advantages over prime assets in prime locations.’

The managers look for properties where they can add value through asset management initiatives and have a long-term gearing target of 40% of gross assets to help boost the returns in favourable market conditions. DRIP is yielding 5.7% with quarterly distributions and the shares are trading close to NAV.

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