For international real estate investors, London and the UK are separate countries. London belongs to “Globalopolis”: an elite group of global mega-cities, transcending their homelands in economic importance. Since 2008, London has attracted over £50 billion of overseas real estate investment; whilst the wider UK property market has languished. This has led to some misplaced, arrogant ideas. London, some say, is a first rate City trapped in a second rate country, and its massive real estate investment inflows are the new “normal”.
But London is not uniquely or eternally attractive to investors. Of course, it has much to recommend it: liveability, easy access to global markets, a concentration of global HQs, and high quality buildings, an extremely liquid market and an improving infrastructure. These factors ensure that overseas investors chose London, rather than other UK cities. But these are not the reasons for the scale of the flows.
Those are located not in London, but in the countries where the money is born. The middle and far eastern sovereign wealth funds are holding almost unimaginably vast surpluses. Equally, the recovering US economy has revivified the US private equity funds’ animal spirits, and reloaded their firepower. In a world where bonds are too low and equities too unpredictable, this money needs yield and diversification.
London property is an attractive answer. Sterling’s weakness means profit on entry. Pricing is still below the 2005/6 peak. UK interest rates are at a 320 year low. UK law allows structures which hugely reduce capital and income taxes. Within this framework, a relatively modest (for a sovereign wealth fund) capital allocation will secure a grade A building. This provides steady income in unstable times, a reasonable hedge against inflation and a useful diversification: performing better than bonds, more stable than equities.
So London’s inward investment mini-boom is more about comparative international markets, the wider investment universe and the global imbalance in surpluses, than it is about London’s attractiveness or the quality of its real estate per se (strong though both are). So if these wider investment facts change, then (Keynes like) inward investors may change their minds about London.
London went through a similar cycle in the late 1980s. Between 1988 and 1990, the Swedes and Japanese poured £2.3 billion and £3.2 billion respectively into UK property – 80% of it into London. Then the government raised interest rates to counter inflation. Between the end of 1989 and 1992, central London’s capital value index halved. The Swedes and Japanese sold up, went home.
There are similar downside risks this time. Inflationary pressure and rising employment mean interest rates may rise; bond and equity markets may move to real estate’s disadvantage, or the government may over tax or excessively regulate the market. Ultimately, real estate markets track the wider economy.
The government should not increase real estate transaction taxes any further. It should also strive to minimise market regulation. We can’t control global market movement, but we can control tax and regulation to create the optimum investment environment.
This is particularly important because these inward investors are stimulating a wider property recovery. Priced out of their capital city, UK investors and institutions are turning to alternative assets and regions. Six per cent for a blue chip Nottingham corporate HQ, against sub five in London, makes an eloquent case for regional investment. Prices are beginning to rise in Manchester, Birmingham and elsewhere, as investors look for non-London prime offices, logistics, and regionally dominant shopping centres.
No one should be complacent. The government’s tax, regulatory and infrastructure regime must better the global competition. Our industry must create sufficient grade A assets to satisfy investor demand. Only by viewing London in global context, and competing in the endlessly repeated “X Factor” for gateway cities, will we keep attracting global investors to London.