Local investors forced out of hot London market

Tough competition from foreigners in the London commercial property market is forcing British investors to regional cities to tap rising rents, with many making purchases privately to avoid auctions or even building office blocks from scratch.

Commercial and residential property in London has become popular for investors from places such as Russia, China and southern Europe because of the financial crisis, and office prices have bounced back strongly from the lows.

From a US$4 billion battle for control of the Canary Wharf financial district to the creation of the capital's tallest building, the Shard, thanks to oil money from the Gulf, many of London's landmarks have had a helpful overseas financing hand.

Last year, more than £55 billion (HK$644.8 billion) was invested in commercial property across the country, much of it by pension funds, insurers and sovereign wealth funds looking for steady, long-term income.

But British investors are increasingly seeing advantage elsewhere.

"We do need to be savvy as to where we invest, and there are some markets in the UK, particularly prime core London, which we see as fully priced," said Chris Perkins, who manages business and industrial property at M&G Real Estate.

With London the principal target for foreign capital, British investors are seeking rising rents in cities such as Glasgow, Leeds and Manchester as an economic recovery takes hold.

In regional centres, a patchy property development pipeline and a shortage of premium property are creating opportunities for home-grown investors.

British institutions increased exposure to the regional office market to 46 per cent by September last year, from 33 per cent a year ago, research from realtor Savills showed, while adding in funds from property firms, occupiers and private investors, their share of regional commercial property was 60 per cent.

Among the most active investors, M&G signed the largest regional deal of the year, spending about £320 million for 500,000 sqft of office space in Manchester. Of the £3 billion it spent buying property last year, 60 per cent was spent outside London.

The group made returns of about 20 per cent for the year and should achieve double-digit returns this year, Perkins said.

For those wanting to invest in regional cities for capital growth and lucrative rentals, there are several routes. The most common is to invest in a real estate investment trust or a mutual fund, although those with a medium-term view and the right skills could buy an existing building or fund a new building.

Although the value of offices outside London is lower, there has been a jump in rental demand for offices in the country's major regional markets, from Bristol and Birmingham to Glasgow and Edinburgh.

While prime office locations in London's crowded City financial district fetched rents of about £80 per square foot by the middle of last year, Birmingham offices got about £30 and Manchester £32, Savills data showed.

Yields are also higher in the regions. While the City returned 4.25 per cent in the second quarter of last year, Birmingham returned 5.25 per cent and Manchester 5 per cent.

For investors looking to steal a march on rivals, many are going directly to local governments and companies that may need to sell off assets, as well as retailers and others open to leasing back their property to free up cash.

"We spend a lot of time seeking off-market transactions where we don't have to be in competitive bidding," said Bill Hughes, the head of property at Legal & General Investment Management. "That is where you get the best value."

The limited availability of grade A assets outside London - down nearly 40 per cent over the past four years, Morningstar said - means those who take the risk of building the properties from scratch could cash in.

While the lack of income from an unbuilt property can put some off, an improvement in the underlying economy had left others more confident about taking on the risk, CBRE said.

Although foreign investors are likely to follow the path forged by domestic rivals, the incumbents should enjoy their advantage for some time yet, said Haddock.

"In theory, almost any investor might be interested in smaller markets. However, because it is harder to place large amounts in smaller cities quickly, some of the larger international investors who have large amounts to invest and limited management capacity might find them impractical."