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JP Morgan Private Bank On The Case For London's Real Estate
César Pérez and Paul Knox
JP Morgan Private Bank
16 September 2013
JP Morgan Private Bank sets out the case for why investing in London makes sense, even
though headlines might suggest it is now a very expensive town. César Pérez, chief investment strategist
EMEA and Paul Knox, head of wealth advisory for EMEA at the bank set out their
views. Global residential real estate markets are centered on cities, not
countries, and each reflects the city’s global status as well as the behavior
of a global home-owning and investing elite. “New World”
cities have risen in the hierarchy of these markets while “old world” ones have
descended over the last seven years. London
is the exception to this. We recently held our annual Real Estate market conference in which we
discussed our outlook and market insight into the UK and the European prime
residential markets. London is probably the most
cosmopolitan of all world cities and the fastest growing city in Europe. Based on a research carried out by property
consultant Savills, 34 per cent of all prime residential London buyers in 2011/12 were from overseas.
Despite a perception to the contrary, the majority of overseas buyers are
looking to London
for their primary residence. The question is: why London?
Historically, London
has been a “safe haven” for overseas real estate investments. Sterling weakness
has made the capital’s real estate look cheap by global standards. However, London is a global brand, its world class status means
that it competes with few other cities in Europe.
It is one of the top three global financial centers and the main trading hub
for the European region. But this is not the whole story; overseas buyers settling in London are important to
the wider economy too. Wealth-creating incomers contribute to the city’s global
standing and cross-border business interests. They support high-end retail,
businesses and services as well as helping to make London the diverse and multi-cultural city it
is and in which so many can feel at home. Overseas buyers in London
real estate have been increasing for both residential and commercial property.
Overseas buyers of high-end London
homes accounted for 38 per cent of deals last year compared with 23 per cent in
2005, data from Savills shows. The figure for non-British buyers rises to 78
per cent for new-build properties worth more than five million pounds. The
buying has had significant and often beneficial, impacts. It is concentrated in
the new build sector and the top end of the market due to a combination of
targeted marketing and familiarity with an international product rather than
the second-hand market. Growth in prime London
has been strong but also unprecedentedly stable recently. London doesn’t look overheated by global
standards although there may be pockets of concern where yields are
particularly low. Tax rears its head A new key area of concern for foreign buyers of London residential property is now tax. Historically non-UK domiciled owners of high
value UK
residential property have used non-UK corporate entities to provide protection
against inheritance tax. The U.K.
has recently implemented a series of measures which will deter the use of
non-natural persons (NNP) – primarily corporate entities – purchasing residential
property valued at more than £2 million in the future. These measures include a new penal rate of stamp duty, a new Annual Tax
on Enveloped Dwellings (ATED) and a new capital gains tax charge when the NNP
disposes of the property. Additionally there will no longer be an inheritance
tax deduction for debts secured against the property unless the borrowed monies
are used to purchase UK
assets. Existing owners of properties through NNPs are recommended to review
their structures with their UK
tax advisers to assess whether these should be unwound. The impact of the new
tax charges needs to be weighed against the potential UK tax charges
in unwinding the structure and the IHT exposure of having direct ownership. In
general, there will be fewer circumstances in the future when purchasing high
value residential property in the UK through an NNP will be
appropriate. Trophies and cores More broadly, Europe’s real estate market is the largest in the world
and has experienced extreme dislocations caused by Europe’s
fiscal and banking crisis. Investors have become more selective in what they
are prepared to buy, with any element of risk being disproportionally
discounted. Trophy and core assets remain largely in demand. Most of the
capital flows have targeted the largest and most liquid markets around Europe. Notably, Germany,
France and the UK have
exhibited stability during volatile markets. This segment of the market remains
highly liquid and pricing remains competitive. Risk aversion has driven up the pricing of stabilized prime assets,
while undervaluing assets with manageable risks. As a result, a large
proportion of assets previously considered prime but with minor impairments are
now being priced as secondary. A significant market bifurcation exists between
prime and secondary assets, creating investment opportunities. From a portfolio construction perspective, we think that real estate is
complementary to most asset classes. Investing in certain types of real estate
properties may provide a hedge against inflation and complement a fixed income
portfolio. Real estate returns have historically been resilient against mild
inflation, and were very strong in the era of significant inflation. As
established, investing in real estate is a great diversifier, but location,
timing, segment, demographics, and cost of funding matter for achieving the
targeted long term returns.