A recent FT article highlights big bets on the UK rental market from private equity funds
Private equity firms and pension funds have been upping the ante with their investments in the UK rental market. According to the FT article, a record late surge of £1.5 billion had been ploughed into single-family home bricks and mortar late last year.
This shows the degree of ramping-up of investment into the build-to-rent sector, which represents more than three-times the combined total for 2021 and 2022. The figures are based on international property consultants, Savills’ data. The late surge of institutional investment includes last year’s record total of £1.9 billion.
The increasing confidence of these private equity investors and pension funds is supported by soaring rental demand for rented residential homes in the face of a growing housing market affordability crisis.
Since 2015, the large institutions have been attracted to the UK residential market. Supported by Government policy they were drawn to large-scale multifamily schemes in city centres. Confidence has grown as these investments have provided stable and attractive returns, largely outperforming initial estimates due to high demand from occupiers.
However, these investors are now favouring single-family homes on large scale estate developments throughout the country over their original forays into large scale city centre multi-family developments. These single-family properties are seen as appealing to long-term tenants - with children at local schools they offer more stable tenancies. Single homes are easier to construct and have fewer planning and construction hurdles due to the UK’s restrictive planning laws and regulations.
Rising construction costs and stricter building regulations plus concerns about the affordability of rents in high rise city blocks providing additional amenities have forced a change of strategy. The large-scale investors have started to diversify into other residential markets, namely single-family homes.
When the institutional investors first moved into the UK’s residential market, they had several challenges to meet: they needed to invest at large-scale similar to the commercial construction sector they had been used to, and they had to compete with existing rental housing stock, mainly owned by private small-scale landlords.
Their solution was to use trusted contractors, forward funded to build city centre, high rise multi-family schemes. These rentals attracted premium rents by providing extra communal amenities and with professional management. They attracted mainly young professional tenants.
Since this first wave, as the Government had desired, there was growing interest in the build-to-rent sector, a class of housing more often found in the US and Continental Europe. Returns proved stable even with the economic challenges of Brexit and the Covid – they weathered the storms better than some other UK property sectors.
Following Covid and the Ukraine war, new challenges have arisen including rising inflation, higher interest rates, increased building costs, and the move to introduce new more stringent building regulations particularly around fire risk in high rise buildings.
With the rise in the risk-free rate of return, fuelled by the above, and the Treasury’s change to multiple dwellings tax relief, global capital is increasingly attracted to the UK residential market but preferring to invest in single-family homes at scale.
As the markets evolve through these recent events, and with individual house sales stalling, the institutions have begun to rely more on traditional housebuilders directly funded to provide housing stock. These are predominantly single-family homes with the likes of Vistry signed up to build 5,000 single-family homes for Sigma Capital’s Simple Life Homes brand.
Using big contractors in most locations no longer stacks-up as viable schemes because increased construction costs have made forward funding of large-scale multifamily schemes in city centres more problematic. Instead, there’s the switch to traditional housebuilders, offering efficient supply chains, economies of scale, and delivering housing that makes economic sense.
Despite rapidly rising rents in the UK which is causing concern over limits to tenant affordability, particularly in the legacy high-end schemes, institutional investors are not deterred and indeed are committing more capital into these UK residential markets based on their performance record and a perceived hedge against future inflation.
Head of global real estate investment at Aviva, a pension fund, James Stevens, told the FT that Aviva has invested £600 million into the sector since 2020. “We believe single-family will be the largest mainstream asset class within [residential],”
According to Savills research, 54% of rental investment in the year to September went into single-family homes, up from 32% the previous year and just 5% in 2019. Now, almost 5,000 of these types of properties were acquired in the first three quarters of 2024, marking a 20% increase compared to the same period in 2023.
Lydia McLaren, Associate, Residential Research says:
“Despite the Government’s commitment to home ownership, the number of new homes built for rent is forecast to continue to increase rapidly. Appetite from institutional investors will support growth of the Build-to-Rent sector whilst yield compression will make the sector more competitive, including in regional towns, cities and suburbs. High quality Build to Rent family housing could compete with demand for shared ownership in some markets.
“We expect the number of homes built for rent to increase by 50% over the next five years across the private and social sectors combined
“This will come on top of expanding development of affordable rented tenures through the Affordable Homes Programme. Section 106 has delivered well over half of affordable rented housing over the last three years, but we expect this to fall to about one third by 2026.”
The UK’s key institutional investors including Aviva, Legal & General, and Lloyds, have now been joined by other major international firms. One example, Blackstone is the world’s largest real estate investor and has invested in 4,500 homes from Vistry since late 2023 worth in the region of £1.4 billion, bringing its estate under management to 17,000 UK residential properties.
Institutional investors have been buying up unsold homes from house builders who have been struggling to sell under conditions of weak demand, often achieving discounts of 15–20%.
But last year saw these discounts narrowing with developers having adapted to the change by cutting their production and entering into strategic partnerships with some of the large scale investors, including selling them land and contracting for new builds.
Some have argued that the trend to more institutional investments make the UK’s housing crisis worse by locking families into rentals and out of home ownership, leaving them exposed to ever increasing rents.
But the Financial Times observed that while institutional investors own only 3% of the UK's rental housing stock (the bulk owned by small scale private landlords), this compares to 37% in Germany and 41% in the US. There’s a long way to go in the UK.
Private equity likes to move on. They are building large portfolios with the aim of selling them to pension funds, funds that need a steady income from these rental homes. Blackstone for example, and one that illustrates the potential for the model, recently sold 3,000 shared ownership homes worth £405 million Universities Superannuation Scheme.
Bobby Barnett, Partner, Residential Capital Markets, Gerald Eve has said that recent events have forced the market to evolve:
“For instance, as the rate of individual unit sales has slowed over the last two years, housebuilders have increasingly engaged with the institutional market, seeking direct funding to deliver stock. This has predominantly been in the single-family space.”
Investors, according to Mr Barnett, have also diversified into other areas, co-living and affordable housing:
“Bulk transactions with housebuilders, channelling flats that were destined for the for-sale market into the Build to Rent market, are increasingly common, as is the use of specialist asset managers to acquire smaller lot sizes for investment. These more varied approaches have created high-quality rental housing targeted at the mid-market, generating long-term sustainable income streams.”
“Given the UK residential sector’s historic compelling returns, combined with its ongoing supply-and-demand mismatch, the weight of global capital will continue to seek routes to invest in the market for the foreseeable future.
“However, US-style, amenity-rich, city centre flats will no longer be the sole focus. Institutions will continue to innovate, creating a wide range of high-quality, well-managed homes that meet the varied needs of modern buyers and renters,” says Mr Barnet.
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