Well, what a difference a year makes! Certainly when it comes to RICS Redbook valuations!
Valuations are down almost across the board as valuers have adjusted to the new normal of higher interest rates, lower availability of debt, and a consequent increase in the cost of capital.
It’s sad to say it but not everything in the garden of property is rosy. Happy are you if your portfolio comprises mainly industrials and alternatives (beds and sheds and medical property), but much less happy are you if you majored on offices, shopping centres and some retail types in recent years.
I have seen several different valuation firms recently, and many are struggling in their dialogue with their clients. The reason for this is that there is such a dearth of transactions that the comfort blanket that comes from saying that the property down the road sold for £ last month has been whipped away, and some valuers have been exposed for their relative lack of understanding of wider investment markets, risk-free rates, risk premium, and required returns. In one instance of which I am aware, the valuation is now arguably so low that I would get my chequebook out personally if it not for the fact that it is still completely unaffordable, and the owner considers this in the realms of the ridiculous and will not be selling at that price.
In another example, a friend was moaning to me the other day of a long-dated property asset that had had its discount rate increased to reflect short-term interest rates, whilst the prospective cash flows were decreased to reflect uncertain outcomes in the future. The combination of changes has driven down the overall valuation by more than 25% below that which he had reduced his own estimates of what was a reasonable price in the market today. At least it was done by DCF! I worry though that the PI cover and prospective discussions with auditors are now ruling the day, not the investment markets.
One of the industry’s leading real estate figures was telling me over dinner the other day that he didn’t trust any valuation over £20 million in his portfolio today. I might have commiserated more had I not been reflecting that it is not just him but the whole industry that is struggling with the lack of price discovery. I pointed out that the prospective return from the now much lower valuation levels could well prove an extremely attractive entry price. To be clear, that is indeed my view.
The movement in listed property share prices in the last three months is relatively heart-warming given the predictions I made back in July that some REIT shares looked attractive at their then prices. For the better ones, this seems to have been borne out; a couple are up 15 % or so. This is not meant to be an ‘I told you so’ article, but rather, is an entrée to say that I expect this improvement to continue, at least for the best run companies with shareholder return at front of mind.
The reality of the market today is that valuers are extremely cautious and there are interesting opportunities for those with longer horizons than the merely the short term. You also need a balance sheet to invest without relying upon debt. That of course counts out much of the market today, but I expect the New Year to bring increased opportunity increased activity to the relief of valuers (to say nothing of beleaguered agents!).
A recent news article suggesting that the RICS has “sabotaged“ the recommendations of its own Independent Review into Property Investment Valuations by providing wishy washy guidance on the use DCF as a valuation tool has done nothing to dissuade fund managers that the RICS, and by derivation valuers, need to get their act together and quickly. The half-hearted response from RICS does not assuage anxiety.
We are today in uncharted territory where the level of confidence in RICS Redbook valuations is at one of its lowest ebbs in my professional career. For someone like me though, with an eye to fair value, a long-term horizon and being ever the opportunist, I smack my lips in anticipation of what 2024 might bring.
The other prediction that I made in the middle of the year was that Gold would prove an attractive safe-haven asset, and even a source of positive return in these uncertain times, also seems to be coming true. Perhaps I should quit forecasting now as the gold price creates new $ highs, but I still suspect that today’s price will be markedly lower than the one that will prevail this time next year. As we wonder what the value of money is in a world simply awash with ever increasing amounts of debt, it seems to me that gold is THE essential anti-fragile asset today. Commodities in general for that matter do seem to be remarkably cheap today by historic standards and that might be worthy of some reflection.
One specific muse on that theme as we come to the end of the year is that oil prices are falling whilst OPEC and other producers are cutting supply, (think about that for just a moment!). I think the price of the dirty stuff that is now so beloved of attention by climate activists might well move ahead significantly as demand/supply imbalances overwhelm the short-term technicals. This could well leave many fund managers who have pursued investment strategies that avoid hydrocarbons wondering how they will record their performance against unconstrained MSCI benchmarks.
Many of you, to your credit, might have now cut out the dirty stuff from your portfolios, or at least are doing so, or are planning to do so, (I am in this latter camp) but I can’t help wondering whether the new green investment paradigm really reflects global GDP. It seems to me that there is now a real risk possibility that so called ESG and other ‘non-hydrocarbon’ funds could markedly underperform the real world economy. One wonders if this might test the ardour of these new investment actors in much the same way that the UK government’s ardour toward progressing carbon reducing strategies seems to have been “tested” somewhat.
Let’s see if the funds and the managers in which we have invested in good faith with carbon emissions in mind, are up to the job and can keep up with both day-to-day cost of living challenges and delivering longer term positive real returns from our investments. This is after all what most investors are seeking to achieve, so I expect some soul searching ahead. As oil recovers its purchasing power, as I expect it to do, even to challenge its previous highs, there is likely to be a lot of circumspection from managers who have moved away from investing in the black stuff. You might like to be quite thoughtful about the benchmarks they show you.
For those of you that are still with me, you might have spotted that my predictions for increasing prices over 2024 are all hard, or “real” assets. You can infer therefore that I expect inflation to remain rather higher than we have become used to in recent years, and whilst this increases the cost of capital, real assets over time should at the least perform in line with that inflation. I personally suspect they might do rather better. As the short term move in bonds to reflect a flattening yield curve is priced in, they might well struggle to do the job that is expected of them in the traditional 60:40 portfolio. If you must invest in paper, make it index-linked, but I personally will always prefer a real asset.
Good hunting to all of you. I hope that you have a very happy break from the office and come back refreshed for 2024 which is most likely going to be another “interesting” year.
