Partner Content: Columbia Threadneedle’s Emma Gullifer discusses options for pension funds looking to invest in residential real estate, including the Build-to-Rent market.
Institutional investors, and in particular pension funds, are increasingly aware of the benefits of investing in residential real estate to bring additional diversification and resilience to their portfolios. Rents that generally track inflation, providing some degree of protection in a higher inflationary environment, income resilience supported by the strength and depth of demand, and the significant potential to make an impact as well as returns financiers, all create a compelling investment case. However, with a wide range of residential investment styles and affordable housing types available, choosing the right strategy can seem like a challenge.
The sector is nuanced due to the wide range of opportunities offered within residential real estate; from highly regulated government-subsidized social housing to building high-end private rental housing or providing alternative sources of non-bank debt to landlords and housing associations. With such a range of strategies, investors should be aware of the risk/reward profiles available and the market factors underlying the projected returns.
The same goes for evaluating the impact of housing investments. Arguably, with the imbalance between supply and demand in the UK, any investment creating new housing has a positive impact; however, investors are now more aware of the need for additionality and that their investments are generating positive change within the wider community, in addition to simply increasing the stock available.
Build to rent
An example of the trend towards investments that offer both financial return and positive impact is the growth of affordable Build-to-Rent (BTR) investments. Historically, the BTR sector in the UK has primarily focused on the high-end segment of the market, creating large, prime apartment buildings with a range of amenities and services designed to attract high rents. However, the case for more affordable mass-market options in this sector is much more compelling.
First, the scale of demand for affordable rental products is much broader, supported by a occupier base of low to middle income working households who currently rely on the unregulated private rental sector for their housing needs. This demographic group represents the height of the UK’s population bell curve, yet they are being squeezed out of property by unaffordable prices and rising interest rates, while not being eligible for housing social.
Distribution of British households
In addition, the available supply of good quality rental housing is shrinking. Rental landlords sold assets to take advantage of rising property prices amid rising costs and reduced tax benefits, and with around 23% of available rental stock below the decent housing standard . BTR, and in particular mainstream and affordable BTR, still represent only a small proportion of rental accommodation in the UK, with market penetration well below that of Europe and North America. This demonstrates that there is considerable growth potential and that institutional investors in affordable BTRs can benefit from this growth potential.
Make an impact
Investing in affordable BTRs not only offers strong financial returns, there is also a real case for impacting local communities as well. The target occupier base of low to middle income working households is currently an underserved market, solely dependent on a private rental sector that often does not provide a decent standard of housing, nor sufficient security of tenure to their housing needs. Through increased investment and development in affordable, purpose-built and institutionally managed rental housing, these households will have access to better quality options, importantly, still at an affordable price.
An affordable BTR can incorporate discounted market rent units into a program, providing additional affordability to the local community; however, these units come without government subsidy. This not only creates additionality to the existing affordable housing stock and those that would be delivered under local planning policy, but also ensures that private capital is not in direct competition with housing associations. and other organizations supplying the social housing stock, thus avoiding the risk that competition for such sites, for example those under s106, will drive up prices for the social sector and non-profit organisations.
Another factor that attracts investors to this sub-sector is that in the absence of government subsidy, exposure to government policy risk is much lower than investing in social housing. The income from an affordable BTR is simply based on the broadly diversified commitments of working households, rather than depending on government subsidies and/or housing allowances, which may be subject to funding and policy changes.
The maturing of the residential investment sector in the UK is opening up an increasingly wide offer for institutional investors, with a better understanding that impact does not necessarily mean simply investing in government-backed housing. By carefully considering their investment objectives and looking “under the hood” of different investment strategies, pension plans and their advisors can help ensure that a chosen strategy fully meets both their risk/return profile , while having a positive impact in local communities.
Emma Gullifer is a fund manager at Columbia Threadneedle.
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