for investment professionals only...- rule is meant to protect longer-term investors, who will be...

Performing for generations

UK PROPERTY UPDATE

Oli Creasey Head of Property Research

JUNE 2020

For investment professionals only


REIT share prices suggest big valuation changes, but direct property investors are yet to experience material

falls – both may be underestimating the severity of current crisis

UK Property - Performance YTD

2

Source: Factset (data as of 17/06/20), Quilter Cheviot Analysis

60

65

70

75

80

85

90

95

100

105

Dec-19 Jan-20 Feb-20 Mar-20 Apr-20 May-20

UK Property Performance YTD (Indexed)

FTSE 350 FTSE REITs JH PAIF L&G PAIF


0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

-90%

-80%

-70%

-60%

-50%

-40%

-30%

-20%

-10%

0%

10%

INTU NRR HMSO WKP SIR LAND DIGS RGL DLN GPOR LXI LMP IHR BBOX SGRO SUPR

Share Price Returns vs Rent Received - UK REITs

YTD Total Returns Q2 Rent Received (RHS)

So far fewer than half of REITs under coverage have suspended dividends, although most are experiencing

some rent non-payment

Income – The Haves And Have Nots

3

Source: Factset (data as of 17/06/20), Company Reports, Quilter Cheviot Analysis

Dividend Suspended

Dividend Reduced

Dividend Still In Place


- Determining which path the Corona Crisis will follow is a challenge

- There are a number of overlapping options, some of which are listed below

- Recent evidence from Asia suggests that lockdown may not be a one-time event

Choose Your Own Adventure – Corona Edition

4

Source: Quilter Cheviot Analysis

“V” Shaped Recovery - Lockdown ends in Q2/Q3 2020

- Prompt economic rebound with minimal job losses

- World returns to normal

Go to: Retail & Leisure landlords bounce back

“Tick” Shaped Recovery - Lockdown ends in 2020

- Economy rebuilds gradually

- Normality resumes eventually

Go to: Student Accom. And Offices are in vogue

“L” Shaped Recovery - Government struggles to revive economy

- Widespread job losses

- Long-term recession/depression

Go to: High-quality income eg: gov. tenancies

“WWW” Shaped Recovery - Rolling lockdowns until effective vaccine rollout

- Rebound then setback

- Economy adapts to long-term social distancing

Go to: Structural trends eg: e-commerce logistics


- Retail has been a difficult sector for some time already, but the Lockdown has exacerbated the problem

- Forecasts are for over 20,000 shops to shut over the course of 2020

- There are c. 300,000 shops in the UK – so a significant increase in vacancy

Retail – Lockdown Impact Already Visible

5

Source: Centre for Retail Research, Quilter Cheviot Analysis

0

10,000

20,000

30,000

40,000

50,000

60,000

70,000

80,000

0

1,000

2,000

3,000

4,000

5,000

6,000

7,000

8,000

2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020YTD

UK Retailers in Administration

Stores Closed Jobs Lost (RHS)


- Shop closures create big problems for shopping centre landlords

- 75% occupancy is the magic number – below this centres tend to enter the vicious cycle seen below

Retail Closures – Flowchart Of Failure

6


Bankruptcy

Rationalisation

Stores Close

Store is Re-let

Occupancy

Drops

Visitors lose

interest in empty

centres

Footfall Drops

Retailers lose

interest in failing

centres


- Retail values have been falling since 2016

- Current crisis may accelerate this trend and put cause some centres to close for good

- Retail parks are more resilient against e-commerce trends, but have fared worse so far

Retail – Troubled Waters

7

Source: Company Reports, Quilter Cheviot Analysis

70

75

80

85

90

95

100

105

Mar-15 Sep-15 Mar-16 Sep-16 Mar-17 Sep-17 Mar-18 Sep-18 Mar-19 Sep-19

British Land & Landsec Retail Valuations (Indexed)

BLND Retail Parks BLND Shopping Centres LAND Retail Parks LAND Shopping Centres


- Funds have closed before for liquidity reasons

- M&G’s UK PAIF suspended in Nov 2019 due to lack of cash

(and is still shut today)

- Widespread closures in 2016 following referendum

- FCA has put in place new rules, meaning valuers must

recommend closure if assets cannot be valued accurately

- Rule is meant to protect longer-term investors, who will be

penalised if others withdraw at out-of-date prices

- Suspension occurs if there is “material uncertainty” around

>20% of the property portfolio

- The rules have had an immediate impact; all open-ended

property funds are shut, except those trading only in REIT

shares

- Even though most funds are carrying plenty of liquidity

- Transaction volumes have unsurprisingly dried up, leading

to valuation uncertainty

- No clear indication when they will re-open, but likely to be

Q3 at the earliest

Open-Ended Funds – Social-Distancing from Investors

8

Source: iStock, Quilter Cheviot Analysis


- Meanwhile, investors are still invested, and exposed to the

risks (and rewards) of property investment

- As with REITs, the assumption is that the income distributions

are at risk

- Typically, we are observing that around 70% of rent has

been received by funds for Q2

- Many funds have not yet had to declare a distribution,

though there are exceptions:

- Kames: monthly distribution is c. 75% of average

- L&G: “distributions will be linked to rent received”

- The long-term impact is difficult to forecast, but we prefer to

see a drop in income compared to a fund that pays income out

of capital reserves

- So far we are not aware of any that have chosen to do so

- Falls in capital values across most sectors are likely, though

some will be more severe than others

Open-Ended Funds – Distributions at Risk

9



- The long-income space has often touted the security of their income – who wouldn’t want a 5% yield with a 20

year life and RPI-linked increases?

- But the recent Travelodge news has cast doubt on the security of their income

- And they aren’t the only ones – Merlin recently issued debt at 7%, and auditors warned about their status as a

going concern in the 2019 annual report

Long Income REITs: Secure By Name…

10

Source: Company Reports, Quilter Cheviot Analysis

Merlin 31%

Ramsay 30%

Travelodge 26%

Other 13%

Secure Income REIT Tenants Travelodge

10%

BCA 7%

Q-Park 7%

Premier Inn 6%

Greene King 5%

Jurys Inn 4%

Other 61%

LXi REIT Tenants


- Long-Income REITs can be valued like a bond, but not simply as a spread over Gilts

Long Income REITs: Secure By Nature??

11


Quality of Income

- RPI-linked leases are fine, as long as the

tenant continues to pay

- A lot can change over the life of a 20 yr lease,

including a tenant’s credit rating

- Their position within an industry can easily

change, as can the prospects for that industry

generally

Terminal Value

- Properties vacated during or at the end of their

lease have very different value vs when

occupied

- Depends largely on location, but also who else

might be willing to take on the property as is

- Ability of owner to enact change of use through

tricky planning process can be key


- When lockdown began, we wondered if working from home would become permanent

- We undertook a survey of QC employees

- While many appreciated the extra time they had a home, it is clear that face-to-face interactions, both professional

and social, are being sorely missed

Offices – Still Necessary

12


0%

5%

10%

15%

20%

25%

30%

35%

What 3 Things are you finding best about working from home?

0%

5%

10%

15%

20%

25%

30%

What 3 Things are you finding most challenging about working from home?


- Even if lockdowns continue for multiple periods, we will still need a central office

- Working from home is still productive, but only for certain tasks

- Vast majority of employees would choose to spend some time in the office if possible

Offices – Productive, But Not All The Time

13


0%

5%

10%

15%

20%

25%

30%

35%

40%

45%

Stronglydisagree

Disagree Neutral Agree Strongly agree

Overall do you think you are more productive at home compared to

the office?

One day a week 48%

Several days a week 36%

All the time 4%

Not at all 12%

Once lockdown is over would you choose to work from home?


- Segro is a European Industrial REIT, and the largest REIT in the UK by market cap

- We equate industrial with e-commerce, but there is more to it than that

- It can include manufacturing, warehousing for retailers not currently trading, as well as data centres and other uses

Industrial – Varied Uses

14

Source: Segro Company Reports, Quilter Cheviot Analysis

Transport & Logistics, 23%

Retail, 16%

Post & Parcels, 11%

Food & Manufacturing, 18%

Wholesale, 10%

Tech, Media, Telecoms, 9%

Other, 13%

Segro Tenant Types


- Different types of industrial properties have different supply/demand imbalances

- Across the UK and Europe, demand has been strong, but there is more supply outside of urban areas

- The Corona crisis has pushed up demand in some areas, notably online supermarkets, which previously had a

very small share of their overall market

Industrial – Location, Location, Location

15

Source: Segro, Quilter Cheviot Analysis

Property

Type Region

Demand

Conditions

Supply

Conditions

Segro Market

Rent Growth

2019

Segro Rent

Expectations

(Pre-Covid)

Urban

Warehouses

UK Strong Strong 2.9% 2-5%

Continental

Europe Strong Strong 3.4% 2-5%

Big Box

Warehouses

UK Strong Moderate 0.6% 1-2%

Continental

Europe Strong Moderate 2.7% 1-2%


- Foreign student numbers in the UK are small relative to the home population, but growing in importance

- Many foreign students will have been spooked by the UK response to the Coronavirus, particularly those in Asian

countries who have had their own brush with pandemics (Covid, SARS, etc)

- Students will be understandably reluctant to study abroad if there is a risk of further lockdowns and them being

stranded on a deserted campus

- Foreign students are required to sit English language exams before studying in the UK – worldwide disruption

means many of these exams have not taken place, and some students may not be able to come regardless

Student Accommodation – International Importance

16

Source: HESA (www.hesa.ac.uk), Quilter Cheviot Analysis

0

50,000

100,000

150,000

200,000

250,000

300,000

2014/15 2015/16 2016/17 2017/18 2018/19

Foreign Student Numbers in the UK

China EU America India Middle East Other International

11% of total

students

http://www.hesa.ac.uk/


- There are over 250k foreign students in the UK, compared to 650k purpose-built student beds

- The assumption is that a large proportion of beds are in use by foreign students as they tend to be wealthier and

prefer the “all-inclusive” nature compared to a traditional house-share

- While the number of international students is small, the impact of their non-attendance could be large on the

housing sector

Student Accommodation – Binary Choice

17

Source: HESA (www.hesa.ac.uk), Quilter Cheviot Analysis

0%

10%

20%

30%

40%

50%

All students Chinese All International UK only

Student Growth Rates 2014-19

http://www.hesa.ac.uk/


- Property valuations haven’t really changed… yet

- Can expect negative moves, but magnitude TBC

- Already seeing issues with rent collection and income

distribution – but varies by sector

- Winners and losers will be decided by the type of recovery

- Structural changes remain intact, potentially accelerated

- Retailing is moving online; warehouses good, shops bad

- We are managing to work from home, but most office workers

are eager to return, part-time at least!

Conclusions

18


Performing for generations 19

DISCLAIMER

This presentation has been prepared only for investment professionals only. It is not intended for any other persons and should not

be relied upon by other persons.

This presentation has been prepared for information purposes only and is not a solicitation or an offer to buy or sell any security. It

does not purport to be a complete description of our investment policy, markets or any securities referred to in the material. The

information on which the presentation is based is deemed to be reliable, but we have not independently verified such information

and we do not guarantee its accuracy or completeness. All expressions of opinion are subject to change without notice. Any

reference to the Quilter Cheviot Limited model portfolio, which is used for internal purposes, is purely illustrative and should not be

relied upon. The figures quoted do not include charges.

Investors should remember that the value of investments, and the income from them, can go down as well as up and that past

performance is no guarantee of future return. You may not recover what you invest. Changes in exchange rates may have an

adverse effect on the value, price or income of foreign currency denominated securities. Levels and bases of taxation can change.

Investments or investment services referred to may not be suitable for all recipients.

Quilter Cheviot Limited is a private limited company registered in England with number 01923571, registered office at One

Kingsway, London WC2B 6AN. Quilter Cheviot Limited is a member of the London Stock Exchange, is authorised and regulated by

the UK Financial Conduct Authority

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