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February 12, 2019
6 ways to invest in property without actually buying property
For over 2 million Brits, investing in property has become their way to save up for retirement. Some might have wanted to build their own property empire and others might have become accidental landlords by buying somewhere new to live while trying unsuccessfully to sell their old property.
However they got into property letting, it reinforced the idea in the minds of many of our countrymen and women that, over the long term, becoming a landlord is an inflation-busting investment opportunity that will help pay for more enjoyment and more adventure later in life.
Of course, it’s not just the capital gains on the value of the property that make it attractive to many. There is a high entry fee into the market with a large deposit and some would argue that the current stamp duty regime is punitive. However once the money has been found allowing those particular hurdles to be jumped, the idea of having someone else make the payment on your mortgage when they rent their property out is irresistible.
On the face of it, it makes a lot of sense as an investment proposition. However, being a landlord is hard work, it involves long hours, and it’s not the (full- or part-time) profession you want to be in if you don’t like confrontation. There’s also the added financial impact of void months when no-one is renting out your property. It can also be difficult to achieve the rent price you want and when the time comes to sell up, it might take months to find a buyer willing to pay (close to) what you want.
We all need places to live and work though so it’s no real surprise that many of us look to invest ourselves in the property market in other ways.
In this article, Samantha Cooper examines the six most popular ways to invest in property without actually buying any yourself.
Real estate investment trusts (REITs)
A real estate investment trust, or REIT, is a type of property investment company. Many REITs are traded on the stock market and there is a active market of buyers and sellers for REITs at any one time under normal market conditions. That means you can disinvest in seconds if you want by selling via your broker or online, getting access to your cash after fees.
There are strict rules for what type of company can qualify as a REIT. Three quarters or more of their income must come from the renting or property and three quarters or more of a company’s assets must be connected to property rental. They must also pay out a minimum of 90% of their rental income (after normal trading expenses) to their investors.
REITs can be attractive for investors looking for an ongoing income as many of the tenants they will rent their building space out to will be on very long term lease agreements. Although there is no guarantee that the companies renting out space from a REIT now will be around in 5 years’ time or 10 year’s time, the fact that they are tied into long leases adds a degree of comfort about a REIT’s future income generation abilities.
REITs heavily invested in the retail space sector may be going through turbulence at the moment and, if all the current predictions about the future of the High Street are true, this may put additional pressure on a REIT to be able to provide you with a dependable income.
There is also a danger that, because so much of a REIT’s income is paid out to shareholders, future expansion may be funded by taking on more debt (increasing the likelihood of future cash flow problems) or issue new shares (meaning that your percentage shareholding in the business decreases potentially reducing the level of income you’re entitled to receive). Shareholders may be asked to provide extra funding if the price of property in a REIT’s portfolio decreases by such an extent that they need to pay their funders extra cash to restore the level of deposit they have on the buildings they own.
Real estate exchange traded funds (ETF)
A real estate exchange traded fund (ETF) invests in property company shares, in REITs, and in debt instruments allowing property companies access to finance. The ETF provider selects the shares and other investments chosen which make up the portfolio.
What an ETF invests in and how much it invests changes over time as the managers of the fund attempt to keep the value of the fund close to the value of the underlying stocks and financial instruments which make it up. That’s measured using something called Net Asset Value – essentially, what the constituents of the fund own minus what they owe.
ETFs are subject to standard market volatility as are their constituents – particularly to highly-indebted REITs.
Real estate mutual funds
There are two types of real estate funding vehicle – real estate investment funds and real estate mutual funds. We’re concentrating on the mutual funds in this article but it’s always helpful to explain the difference between the two, particularly to newer investors.
Real estate investment funds tend to be massive with participants investing millions at a time in them. A real estate mutual fund works with investors with much smaller available amounts of capital and invests that capital on their behalf.
Real estate investment funds tend to hold money in the companies they distribute money to for years and years and they require the commitment of their investors to be in for the long haul. Real estate mutual funds require a shorter commitment in time to stay invested, sometimes as little as 7 days (although you should expect to stay invested for at least 2-3 years).
Both types of fund can provide very decent returns to their investors but those who place their capital in real estate investment funds are more likely to see much larger gains (and, at the same time, be exposed to the possibility of much larger losses) when the companies they have invested in float on the stock exchange or enter into another phase of fund raising.
Think of investment funds like Dragons’ Den and mutual funds like Funding Circle. It’s not a perfect analogy but it’s close enough in terms of likely returns and access to money if you need it.
There are generally two types of real estate mutual funds:
* those which invest in the buildings directly (including sourcing, deal negotiation, building improvement and maintenance, finding tenants, and cash collection) and
* those which invest in REITs.
The level of risk in a real estate mutual fund depends on what the fund actually invests in. Before making a decision to invest in a real estate mutual fund, you should do your due diligence and speak to an independent financial advisor for guidance.
Invest in property companies
Another option is to invest directly in the shares of companies involved in the construction, management, maintenance, or letting of property. There are hundreds of such companies listed on the UK stock exchange and on other bourses around the world. If you get your investment right, you can make financial gains through dividends paid by the companies to you and in the general rise in the value of their shares.
However, the stock market can go periods of volatility and it is this disruption which can greatly and negatively affect the value of your shares. The wider economy may also suffer meaning that the expected revenue streams reported by a company fail to materialise, affecting the amount you might be paid in dividends.
Time invested in property companies is a key factor. As reported by Investor’s Chronicle in 2017, “Anyone who bought into housebuilders five years ago, and held their nerve as well as the shares, would be sitting on a very nice profit. In that time, shares in quoted housebuilders have more than doubled, compared with a 30 per cent rise in the FTSE All-Share index.
“However, anyone jumping on the building bandwagon this time last year might have been less lucky, with shares in five of the 12 public quoted builders showing a loss.”
Investing directly in property companies requires a degree of foresight which, in many people’s eyes, means that you must be able to spot future trends that other investing professionals might not see.
We’re all aware of the housing shortage in the UK and the government’s exhortations to builders to start building. That might look like a great investment opportunity until you find out that “housebuilding figures are at their lowest level since the Second World War” (source: Independent, 1 Jan 2019). The reality does not meet the politicians’ rhetoric as the government “have fallen over six years behind their own housebuilding targets” (source: This Is Money).
Retailers are taking a hammering at the moment and so are their landlords. Company after company is entering voluntary arrangements and the first target of such arrangements are the landlords from which they try to secure a substantial discount, sometimes up to 100% for an extended period. Cue Mike Ashley in this vivid piece from the Guardian.
What about the so-called “big sheds”? Big sheds are the massive commercial developments being built across the company offering online retailers the opportunity to warehouse their stock and access to nearby major motorways to more efficiently distribute their goods. This seems to be a good bet given the direction of retailing. This Guardian article shows the rise and rise of the big shed but are the companies you’re thinking about investing in still holding onto the potential worthless big sheds once occupied by retailers like Toys R Us? (source: This Is Money).
Investing in shares directly should nearly always be considered as a long-term hold so that you have the best chance of making the most money. However, in an age when so much of the world as we have known it is changing and what needs to be built is often not being built, please do as much research as you can do before committing your money to one particular company’s shares.
You may or may not be aware of peer-to-peer platforms however they have been revolutionising much of the debt market in the UK and abroad over the last 10 years or more. Essentially, what they do is bring together people and companies holding onto spare cash with people and companies who need money now.
In the personal loan sector, Zopa is the stand-out performer whereas in business, as I mentioned earlier, Funding Circle is the dominant player.
Direct property investing, whether construction, renovation, or purchasing with a view to rent out, has always required a significant amount of capital upfront. Look at any standard buy-to-let mortgage and you’ll see that you often need a 30% deposit before a mortgage lender will entertain your request for finance. On top of that upfront expenditure is stamp duty, solicitors’ fees, conveyancing fees, marketing costs, and more.
Even if you have a lot of money you can invest upfront, banks can be very jittery about lending you money depending on your level of experience in property investment and the performance of any existing portfolio you have.
Property crowdfunding or property peer-to-peer lending platforms fill this gap in the market. You, and potentially hundreds of others like you, make a small investment (sometimes as little as £1) to provide the property company with the funds they need. Because the investments are riskier, the danger of loss of money or failure to pay the returns advertised is offset by an attractive rate of annual interest.
As at August 2018, the excellent website 4thWay listed 23 property peer-to-peer lending websites – click here for their article.
Better still, in 2016, the Innovative Finance Individual Savings Account (IFISA) was launched. Individual Savings Accounts (ISA) allow people to invest up to £20,000 a year in various different ways secure in the knowledge that any capital gains or interest they make on that investment will not be liable to tax.
Investors can now take out one IFISA a year and property peer-to-peer funding was included as a suitable type of investment for IFISAs. Investment schemes eligible for IFISAs, like peer-to-peer property crowdfunding, however do not benefit from the Financial Services Compensation Scheme.
Your capital is at risk with peer-to-peer property crowdfunding and David Stevenson of the Financial Times recently questioned if property peer-to-peer lending is “ever a good idea?”. A few months later, his colleague at the same media organisation, wrote an article “warning over peer-to-peer defaults”.
Property bonds also qualify for IFISA inclusion and they offer investors another way to get into property without actually having to own the property themselves.
Property bonds generally tend to focus on one particular property development. Once that development has been completed, the investor receives his or her money back in full together with the accrued interest payments. Some pay this right at the end and others pay nominal interest payments over the fixed term of the bond as a reward to investors.
How is the money invested and the interest earned returned? Once a development is complete, the building(s) or the individual units contained therein are either sold to their end users or the deal is refinanced by someone else. For example, if you invested in a block of flats where all units were to be rented out and never be sold to tenants, the developer would secure their next round of funding to pay off the bondholders like you and they would then show a profit each month on their rental income.
Each property bond scheme is different so it’s always very important interrogating a promoter’s business plan and their assumptions prior to making an investment.
The funds you invest will often be secured against the property to be built or to be renovated meaning that, if the developer ceases trading, there is an asset which can be sold so that some or all of your money can be returned to you.
As with property peer-to-peer crowdfunding, your capital is at risk. You may lose some or all of the money you’ve invested and there is a possibility that the returns you receive on your investment may be less than specified in the investment prospectus. Property bonds, sometimes called “loan notes”, are also not protected by the Financial Services Compensation Scheme.
The Azurite Property Bond
The Azurite Bond is a property bond offering for sophisticated investors and high-net-worth individuals, providing the opportunity to invest in the residential infrastructure of Monaco.
To learn more about the Azurite investment, please download our brochure here.