Fund managers shun housing investment trusts

Copyright: David Lawson 1996

There is something sadly amiss when you come back from a nice seaside trip feeling more depressed than when you left. Alan Collet was not expecting a bundle of laughs during his recent jaunt; who would when that involved lecturing to a bunch of fund managers? But he might have expected more than a communal yawn. As housing investment guru for Allsop & Co, he was bringing good news to the annual National Association of Pension Funds conference about revolutionary plans for attracting institutions into residential property. Housing Investment Trusts seem to push all the right buttons: tax incentives, market liquidity, minimum rent controls, respectable yields - all straight from the wish-list of big investors. He might just as well picked up a wet haddock on the seafront to slap around their faces.

'One large group is not interested under any circumstances,' he says. 'You could offer them 25% returns and they would still back away. Another lot will listen but still cringe from political risks. 'Only a small group are ready to accept that risk - but they seem to feel the returns on offer are not yet attractive enough.' A similar message emerges from a straw poll of some of the biggest fund managers - the very people the government is targeting with its proposed HITs in the new Housing Bill. Martin Moore, property investment head of the Prudential, lies close to the 'never' end of the spectrum. 'I am not saying we rule out HITs entirely; but it is unlikely we would get involved,' he says.

A variety of doubts over liquidity, potential returns and risks taint his perception. So does a residue of doubt over political machination, management problems and low returns left over from substantial residential holdings decades ago. But the crunch factor is market knowledge. 'We understand the commercial property sector and its dynamics and feel we can get good returns there,' says Moore.

David Hunter, Moore's equivalent at Scottish Amicable, lies at the other end of the scale - one of Collet's small group of interested listeners. Hunter would claim a similar enthusiasm for commercial property, but that has not stopped ScotAm becoming a leading backer of housing associations, with more than 1,000 shared-ownership homes on its books. 'We are always looking at new ways to invest,' he says. 'The rented sector is attractive because it is growing, and all political parties now seem to be in favour.

'At the end of the day yields are the important factor. The problem is, we have not been offered anything. We cannot make a judgement on yields if we do not know what they are.' Some hope, then, if the Housing Bill stimulates intermediaries to produce schemes with attractive yields and a management structure to offer arms-length investment.

Richard Harrold at Hermes shares the same boat. A progressive, sometimes revolutionary investor, the former PosTel pension management group has yet to dip deeply into residential. But it has no qualms about holding equity in firms in this sector, so Harrold does not rule out a similar stakes in HITs. Again, however, he has seen nothing to make a judgement.

William Hill of Schroders overcame that problem by doing his own study of the possibilities for a potential client but came away with some doubts. 'The government does not seem to have got the rules quite right,' he says. The ceiling on the value of homes, for instance - a carry over from business expansion scheme - restricted potential returns. 'If they allowed more than œ125,000 in London and over œ85,000 elsewhere, that would improve the quality of portfolios.'

Restrictions on development were also a drawback. 'A looser hand on enhancement would enable a trust to add value,' he says. The 15 funds he canvassed had similar doubts, although a couple showed interest in some kind of pooled fund. So would Hill, wearing his other hat as an investor, but even then he sees difficulties getting attractive enough yields. He has not ruled out some involvement in future, however. 'I am interested enough in the product to keep following developments.'

Nick Price has such a strong interest that he sits on the board of a housing association. But that is in a personal capacity. As a Norwich Union fund manager, he takes the majority view that HITs will cause few ripples among major funds. 'It is a good idea and could appeal to smaller investors who put money into unit trusts. But perhaps it is too early to judge until something materialises.'

This cloud of apathy could change if one institution broke ranks, according to Owen Inskipp of residential investment manager Johnson Fry. 'It is the sheep syndrome. Funds hold back until the first goes in and then join the flock.' But there is still little sign of that breakthrough. If anyone was going to produce an incentive, it would be a group like Johnson Fry, which has pioneered residential funding such as BES and rented property buyouts. But that very success is keeping Inskipp too busy to worry about HITs. 'The legislation has still not gone through, so they are not a priority,' he says.

Alan Collet has also been in the thick of residential investment over the years, but has greater reservations about how quickly funds will move into HITs. Institutions may not have detailed projects to study, but they have an idea about the possible yields - and these do not look good enough to cause a stampede. They are looking for a premium to cover risks, and that is just not there.'There is a general perception that 7% to 8% real returns are necessary. This is not credible unless property prices are4 rising,' he says.

Collet is not so depressed by his seaside trip to let such prejudices go unquestioned. He argues that funds buy commercial property on the basis of rent increases extrapolated from future growth of the economy. They should therefore accept forecasts of potential house price rises based on the wider measure of rising earnings, he says. Ironically, if house values began to rise significantly, renting could be dented as tenants rush to buy, so potential investors could argue that they would suffer either way. But a more fundamental paradox could hold the key to whether HITs take off. To attract funds they must be liquid, which means aiming not just for a stock exchange listing but a size which can command easy sales of shares. But they cannot do that without starting small - which will require seed capital from institutions.

This practically guarantees a slow and ponderous start. Political uncertainty will also ensure little happens until after the next election, says Collet. But that matches the predictions by Jim Robertson of Coopers & Lybrand in an analysis earlier this year what is fast becoming the guidebook for HITs. He thinks the government has got the idea 'almost right', slipping up by locking out existing property companies, private stock and old BES schemes. But he expects an eventual build-up to investment of œ1bn a year - which means institutions will have to join in - eventually.