UK Distressed Assets

The UK property market is finally showing some signs of life. Recent data released by the Royal Institution of Chartered Surveyors (RICS), Rightmove and Halifax have all indicated market improvement: a recent RICS report disclosed that new enquiries were up to the highest level for nearly a decade and that sales have started to pick up slowly (albeit from a low base). According to a Rightmove statement released in July asking prices rose for the fifth month in a row. Miles Shipside, commercial Director of Rightmove commented - “in most parts of the country prices have consistently improved during spring: with growing confidence that we’ve passed the bottom, buyers are more active although they may discover that many of the best buys have gone”.

Recent figures from Halifax show the house price to earnings ratio down from its height of 5.86 in the third quarter of 2007 to 4.35 in the first quarter of 2009, near to its longterm average of 4.02.

Despite this positive news the macroeconomic picture in the UK remains quite bleak as unemployment continues to rise (7.1% during the period January to March 2009, up 0.8 on the previous quarter, according to the Office of National Statistics). The UK economic outlook is resolutely poor, with even the Chancellor predicting that the UK economy will shrink by 3.5% this year.

Any housing market recovery in the UK is going to be dependent on lenders improving their products (of which there have been some signs). Opinion is divided over the shape of the recovery: the three main options appear to be a U-shaped recovery (ie a continuation of gradual decline before a gradual pick-up over a number of years), a V-shaped recovery where the market bottoms sharply and rises sharply (this seems less likely) and finally what many doom-merchants are predicting – a ‘dead cat bounce’ where misplaced optimism causes a partial recovery before prices plunge to new depths.

Predictions are almost pointless in the current market as any recovery depends on countless factors, the most important of which is confidence. However, the current press ambivalence and economic uncertainties are certainly presenting the property investor with real opportunities, particularly in the area of distressed assets.

In any market there will always be distressed sellers who have to sell due to pressing circumstances and who are not able to sit out the downturn. These circumstances are traditionally death or divorce but in the current market this has diversified significantly and numbers of those affected are on the increase. These now include property investors who bought near the height of the market and are in negative equity or negative cash flow, city investors or bankers facing ruin who are forced to sell, the man or woman on the street who may have lost his or her job and can’t afford the mortgage, and finally, of course, the lenders with thousands of repossessed properties on their books still desperate to restore liquidity to their balance sheets.

The main problems facing investors are where to find distressed property and deciding what they should be looking for. The most usual sources for distressed property are private individuals, banks, lawyers (usually acting for a lender or individual) and developers with financial difficulties.

Some companies even approach individuals facing repossession and offer to buy their property at a knock-down rate and to rent it back to them. They do this by targeting affected areas with leaflets dropped through doors. For many people some of these companies are opportunistic at best and morally bankrupt at worst, profiting from other people’s desperation despite protestations that they are ‘helping’ others avoid repossession.

It’s much better to get involved before repossession if the affected party is a developer who has cash flow issues in the current market and may be willing to offer a significant discount if stock is purchased in bulk. More usually the property is bought after repossession either at auction or through an agent. Unfortunately for the investor there are no short cuts to finding this type of property: it involves a lot of hard work, research and time. One option is to employ a company to source properties for you but it’s a good idea to research such services thoroughly beforehand and ask yourself if they add value. In some cases they will simply give you access to a list of properties which  thousands of others will also have seen, populated with over-valued poor-quality stock, for which you will be charged. There are companies out there who offer properties which have been subject to far more detailed analysis and these may be a better bet.When looking at any repossession property the criteria you should look for are no different from those in any investment property, namely location, yield, condition and value.

Location is obviously paramount – the property does not necessarily have to be in a prestigious location but should have decent transport links and, crucially, should be easy to rent out. Gross yield is less important than net cash flow and high service charges in some apartment blocks can decimate this. In general, however, it is relatively easy to find good-quality property that yields between 7% and 10%.

Condition is an obvious factor for any investor (if in doubt, get a survey). Finally there is value, which is the trickiest factor to measure. It is very difficult to ascertain current market value, particularly in blocks of apartments. Market value is certainly not what someone paid for the property at the height of the market, nor is it necessarily what it is being valued at now (at a time when many surveyors are under pressure from lenders to undervalue apartments). All of this means that common sense judgements must be made taking in all of these various factors. It also means that any ‘below market value’ (BMV) claims are absolutely meaningless unless backed up by your own research.

The market seems to be near a tipping point. Recent positive economic news is filtering through to the property market and auction houses (traditionally a leading indicator of the health of the property market) are reporting encouraging figures. There is no doubt that there is real value to be had by investing in well-sourced property now. It may now be time to have the courage of your convictions.