Shares: Prospects rise for hot properties

A NEW BULL MARKET has begun for property shares. With hindsight, we can see that it began last September when sterling was forced out of the ERM.

Stock market analysts who have been quick to pick up the change of trend, such as Andrew Causer of James Capel, caution that they are not expecting a re-run of the 1980s boom. But property shares have a remarkable tendency to do well when the direct property market is buoyant, mainly because of their ability to lever returns by aggressive borrowing.

Readers may be scratching their heads at this stage. A property star of the last boom, Speyhawk, has just been forced to call in the receivers; there is still a glut of unlet property, particularly in the City; and it seems only weeks ago that there were fears the entire UK property industry was going to fall into the hands of the banks, as they tried to recoup a staggering pounds 38bn of property-related loans. But against those negatives there are a remarkable number of positives.

Most important is the sheer scale of the bear market that has taken place in both the direct property and the property share markets. Good-quality, well-let commercial properties yield more than long-term bonds. This has led to the amazing situation where such companies as Land Securities and Brixton Estates are raising money from investors in return for debentures or equity issues yielding 7.5 per cent or less, which they can then invest to boost their income. Not surprisingly, investors are confident these companies can keep raising their dividends.

By 1995, Andrew Causer forecasts, there could be a severe shortage of high-quality space in the West End and the beginnings of a shortage in the City. Rents could then be rising at a 5-10 per cent rate, which might well compare favourably with the growth rate for dividends

Quoted property companies should benefit, not least because they will be going into the upswing with record levels of borrowings (gearing) in relation to assets. Even the sector doyen, Land Securities, has gearing of 67 per cent; the sector average is more like 100 per cent. A 10 per cent rise in rents allied to a 1 per cent fall in yields would boost net asset value on the typical quoted property company by a thumping 55 per cent.

Better yet, as a result of the prolonged bear market, such companies as Land Securities, at 563p, are yielding more than the market averages - an astonishing development for investors accustomed to miniscule yields on property shares. So the income for investors in Land Securities is virtually guaranteed to rise in future - with a powerful capital-gain kicker, as rents revive in the mid-1990s, thrown in.

Among other attractive-looking leaders are Great Portland Estates at 192p, which is expected to announce a new West End development to come on stream in the mid-1990s. Most highly geared of the leaders is British Land at 316p. The dominant Ritblat family has purchased the shares aggressively and the company has bought property throughout the downturn.

Two smaller companies that should do well are St Modwen Property at 32p and Burford Holdings at 72p. The chairman of St Modwen, Stan Clarke, built up a house-building concern which he sold to BICC in the 1980s for pounds 51m. Since then he has concentrated his efforts on the property company, which has 90 per cent gearing but also an pounds 8.5m rent roll covering interest, overheads and the dividend. A stream of deals is being done to raise returns on under-managed property assets.

Burford, at 72p, is run by Nigel Wray and Nick Leslau, who sold pounds 90m of property at the peak in 1989 to eliminate net borrowings, but have since been steady buyers, taking gearing to 67 per cent ahead of anticipated recovery. In a recent deal, Burford bought a well-let office block in Bristol for pounds 8m on a yield in the low teens.

Now that buyers are back for that sort of high-yielding proposition, Mr Leslau reckons it could already be worth 15-20 per cent more than Burford paid. As a wild card, the group also has a 50 per cent stake in a successful publishing business, which is scheduled for a future flotation. Both shares look attractive investments.