British commercial property funds have sold some of their best assets to meet a surge in investor withdrawals as nervous buyers avoid lower quality real estate, evidence that prices may have further to fall.
According to data from Investment Property Databank (IPD) covering 80 percent of Britain's property funds by value, disposals in the first quarter at 3.6 billion pounds ($7 billion) were the highest since its records began in 2001.
Last week, the Association of Real Estate Funds (AREF) said net capital outflows reached 500 million pounds in the first quarter of 2008, down on the previous quarter but still showing investors continued to flee the sector after a commercial property boom hit the buffers last summer.
Almost 3.5 billion pounds has been withdrawn from AREF-registered British property funds since the middle of 2007.
So which assets are being sold by funds to meet redemptions?
"What is selling is the better quality stock that is fairly priced," Greg Nicholson, chairman of capital markets at global property services firm CB Richard Ellis, said.
"As in previous market downturns it is the good quality stock that finds a home while secondary does not, unless it is at significantly higher yields than previously," he said.
Nicholson's view is backed up by the data. Equivalent rental yields, a measure of asset quality that moves inversely to price, were 6.3 percent on buildings that were kept, compared with 5.8 percent on those that were sold, according to IPD.
The higher yield suggests assets being sold were of a lower quality and in less desirable locations than lower-yield properties, which are more appealing to potential clients.
Funds may have had little choice but to sell some of their best assets due to the weak market, where average surveyor valuations were down 16 percent from their peak, while asking prices were as much as 10 percent lower still, according to market sources.
Notable deals so far this year include funds firm New Star's sale of its biggest London asset, Commerzbank's City headquarters, to private equity firm Evans Randall for 127.5 million pounds - 13 percent less than it paid in 2006.
A spokesman for New Star said the sale had been strategic rather than forced, and that it continued to own and manage a portfolio of prime UK real estate assets.
Meanwhile, a statement from one of Britain's biggest property funds firm, Prudential-owned PRUPIM, said its flagship M&G Property Portfolio had returned to net inflows and had upped its exposure to prime retail property by selling some assets at the start of 2008. It did not give further details.
Britain's biggest open ended property fund, insurance group Aviva's Norwich Property Trust, could not be reached for comment.
FURTHER TO FALL?
The weak market for secondary properties suggests Britain's battered commercial property market has further to fall, even though the pace of decline in capital values has slowed so far this year.
In central London, cash-rich buyers like German and Middle Eastern funds are keeping the market turning over, but they tend not to look outside the capital, so the picture is opaque in the provinces even for the choicest assets.
"The market for prime or core property is there but only for central London," said Tony Horrell, head of capital markets at global property services firm Jones Lang LaSalle.
"Are deals being done in Manchester, Leeds and Birmingham, or along the M4 corridor (the area around the main road west from London)?". The answer to that is few," he said.
About 7.5 billion pounds worth of physical property changed hands in the first quarter - less than half the quarterly volumes seen before banks reined in property lending in the wake of the US subprime crisis, according to Property Data, which collates transaction figures direct from agents.
In the absence of deal-based evidence, the true extent of losses on secondary commercial property may not yet be fully appreciated. Market talk speculates that the yield gap in broad terms between prime and secondary property had probably already doubled from as low as 1 percent last summer.
"A spread of 200 basis points is already in the market, at least in the way people are talking about the market, but there is not enough evidence to prove it," Jones Lang LaSalle's Horrell said.
Ric Lewis, head of French investment bank Natixis' Curzon Global Partners, is looking for bargains in non-prime UK assets. He described the UK commercial property market as a "slow-motion crash".
"There would be much more transaction volumes if this was the right price," he said. "We are past the denial stage. We are now in acceptance and grieving, but we haven't got to self actualisation yet."
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