Diversified and total-return driven, the UK’s charity sector has been quietly active in recent years. Russell Handy reports
For an investment sector worth in the region of £90bn (€113bn), it may come as some surprise that there are just three fund managers specialising in the UK charity sector’s allocation to real estate.
Cordea Savills, Mayfair Capital and the Church Commissioners for England each take real estate seriously – with the latter holding a portfolio worth around £2bn. Through its Charities Property Fund, Cordea Savills holds around £800m of investment on behalf of charities, while Mayfair Capital’s Property Income Trust for Charities Fund holds £320m.
All three achieve double-digit returns; all three prefer diversified, long-term safety. So why is so little noise being made about the niche sector?
The risk of bad publicity is one reason. An unethical investment by a charity can invite scandal, public outrage and affect the fund-raising ability of the charity. Therefore, the sector has gone about its business quietly.
Taxation and the way the UK treats charities have played a part in the evolution of the sector’s real estate investment. Historically – and in spite of the fact that the Church Commissioners dates back to 1704 – charities are relatively new to real estate as an asset class. When its tax exemption was scrapped in the 1990s, the charity sector found itself treated like a pension fund. “Exemption is as valuable today as it was 15 years ago when stamp duty land tax rose to 4%,” explains James Lloyd, business development director at Mayfair Capital.
That brought common investment funds (CIFs) into play for their exemption from both income tax and capital gains tax. For Cordea Savills, the tax change coincided with the launch of its charity fund in 2000. “The fund was set up as stamp duty was hiked,” says fund director Harry de Ferry Foster. “When tax was 1%, no-one minded, but when it rose to 4% charities were sparked into activity. Some charities will only invest in CIFs,” he adds. “It ticks their boxes – it’s regulated and, unlike buying a share, has no withholding tax. There’s a benefit in people going with what they know.”
Cordea Savills, Mayfair Capital and the Church Commissioners all share the need to deliver fairly high returns for clients ranging from universities to healthcare charities. Cordea Savills has more than 1,500 investors in its fund.
A lack of excessive leverage is a selling point for those running funds for the charity sector. Mayfair Capital has kept gearing modest. In June, the fund took a fixed-rate facility from Canada Life on an interest-only basis for seven years. Lloyd says gearing is between 15% and 20%.
“We’re very comfortable with that and not going to go any higher,” he says. “It’s a defensive, low-risk proposition for the charity world.”
While investing alongside more typical investors in a non-specific real estate fund is still an option, the offer of a tailored product with low fees has clearly appealed to charities looking to retain some control over their investments.
“Where can charities go to get a relatively high income yield?” says Lloyd. “To get a diversified approach with a 5% allocation you’d need to be a very large charity to go it alone. There are a lot of property vehicles – a central London fund such as WELPUT, for example, is purely for those looking for exposure to that very specific sector.”
Diversity of sector and geography is on most charity wish lists. However, Joseph Cannon, head of strategic asset management within the property investment department at the Church Commissioners for England, says it does not seek “further diversification for its own sake.
“We focus on select managers who will hopefully provide additional risk-adjusted returns,” Cannon says. “It is a genuinely diversified portfolio – most investments are in the UK, split across a variety of sectors.”
Central London residential, UK farmland, commercial and indirect property have been targeted by the fund, as well as strategic land and minerals interests.
Cannon says: “The Commissioners have invested in what we would consider alternative sectors, including forestry in the UK, as well as overseas and in infrastructure to better diversify the portfolio and seek higher returns. We continue to buy and sell in different property classes, including investing in our central London residential Hyde Park Estate and targeting long-term strategic land.”
In 2013, the Church of England’s property portfolio boosted returns to almost 17% for the church’s overall investment fund, with respective returns of 20.6% and 16.9% from residential and commercial property. The fund aims to generate a return of inflation of more than 5% a year on average over the long term.
The church said it this year took advantage of “strong demand for quality period properties in London”, selling offices with planning permission for residential conversion.
In terms of geography and sector, Cordea Savills and Mayfair Capital have their preferences. Mayfair Capital is 23% exposed to the south-east of England, with the north-west not far behind at 19%. Alternative sectors are on the radar of the Commissioners, Cordea Savills and Mayfair Capital.
Avoiding prime City assets, the Cordea Savills fund is 30% focused on greater London properties and is, for the most part, a southern-England focused fund. “When such a significant amount of GDP is generated by London, you need to mirror that,” de Ferry Foster says.
By the same measure, de Ferry Foster has his views on Scotland; now back in focus following a month of uncertainty in the run-up to its independence referendum. The fund has a 1% focus on property north of the now imaginary border. “Scottish property needs to be cheaper to reflect the risk,” de Ferry Foster says.
While property in southern England dominates the fund’s portfolio, Cordea Savills has also invested in the Midlands, a region it has chosen for its strong warehouse sector. The fund is overweight to the industrial sector.
“The end of industrial empty-rates exemption has made the sector more interesting,” says de Ferry Foster. “Less speculative development, cutting supply, has put upward pressure on rents.”
Regardless of the sector, an empty property is for Cordea Savills a worst-case scenario, says de Ferry Foster, citing assets the fund has turned around in areas off the beaten track of prime investors. The fund has kept vacancy in its portfolio below 2%.
“We are essentially buying the underlying real estate rather than just the lease covenant,” he says, adding that an empty asset can often provide an opportunity.
Cannon, meanwhile, says the Commissioners also occasionally benefits from the expiry of long leases granted by predecessors as far back as the 19th century, which “revert to current values as they fall in”.
He explains: “This means that much of our property portfolio is reversionary, providing additional value over the next 50 years. Partly because of this, we are a total-return investor and do not limit our strategy to searching for income.”
Typically investing in lot sizes of between £5m and £15m, Mayfair Capital’s fund shares the view that UK logistics are a good investment. “We like the logistics warehouse sector,” says Lloyd. “The distribution sector continues to benefit from the internet, while retailers need to get their goods to the market. There’s also very good demand for manufacturing in the motor industry and its auxiliary sectors.”
Logistics’ gain could be retail’s loss – and both Cordea Savills and Mayfair Capital are bearish on UK high-street properties. De Ferry Foster says it has been “quite anti-high street for the last 12 years”, citing the impact of major UK supermarkets.
Lloyd meanwhile, says Mayfair Capital is “pretty bearish on the high street” and been “quite defensive for the last 10 years”.
“We’re trying to reposition the portfolio to pick up rental growth in areas we think will perform best,” says Lloyd. “Rental growth will drive capital growth and it’s about capturing the cash flow. The trick is to select assets which are best positioned to do that.”
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