Buy-to-let: Britain holds its breath ...
As Labour vows to interfere with the market by capping rental rises, experts predict a disaster for the country’s landlords
BRITAIN’S growing army of buy-to-let landlords will hold its breath this week – and pray that a Labour Government is not elected. Many experts believe a Government led by Ed Miliband will wreak havoc on the attractive investment returns that many people now earn from owning a buy-to-let property – or a portfolio of properties.
Mismanagement of the economy by Miliband and likely Chancellor of the Exchequer Ed Balls, they say, could trigger interest rate rises and a sharp housing market correction, proving disastrous for buy-to-let investors.
Also, Labour has confirmed it intends interfering in the private rental market to the detriment of landlords. It has pledged to cap rental increases that landlords can impose, introduce longer leases and remove tax reliefs for those who fail to look after their properties.
The changes, Miliband claims, will give millions of ‘forgotten’ renters – prevented from buying through soaring house prices – a fairer deal. But few agree, with some decrying his planned interference in the private landlord market as a ‘stunningly bad idea’ that could backfire spectacularly as buy-to-let landlords give up the ghost and the supply of rented property shrinks.
Eric Pentecost, Professor of Economics at Loughborough University, says: ‘Buy-to-let investors face several potential downsides on the horizon. They include a future rise in interest rates, a fall in house prices and political interference in the rental sector. A Labour administration would more likely bring these downsides much closer to home.’
Since the 2008 financial crisis, Britain has been transformed into a nation of amateur landlords. Fuelled by a cocktail of cheap mortgages, moribund savings rates and a generation of youngsters priced out of the housing market, a buy-to-let frenzy has gripped the country.
People armed with wads of cash – some released from pensions under new rules introduced last month – and cheap interest-only loans have bought up investment property in droves. The Bank of England recently published data confirming that buy-to-let lending as a share of overall mortgage lending is now higher than it was before the crisis.
An estimated one million people – amateur landlords, professionals, and so called mega-landlords – now run buy-to-let portfolios. Investors comprise celebrities, the retired and those simply looking to supplement their salary. It is not difficult to see why buy-to-let has become the ‘best’ (most sellable) investment story in town – bigger than the technology fuelled investment fund buying spree of the late 1990s – a spree that, rather ominously, ended calamitously for millions when the tech bubble burst in the spring of 2000.
Detailed analysis published last month confirms that buy-to-let has generated better long-term returns for investors than all competing mainstream investments – cash, commercial property, Government bonds (gilts) and UK equities.
The work, conducted by Rob Tho- mas, a former Bank of England economist, shows that over the past 18 years, a £1,000 investment in an average buy-to-let property purchased with a 75 per cent loan-tovalue mortgage would now be worth a staggering £14,897. This is equivalent to a compound annual return of 16.2 per cent. The same investment in either UK shares or cash would have grown to £3,119 and £1,959 respectively – annual returns of 6.5 per cent and 3.8 per cent.
The superior return from buy-tolet, says Thomas, principally reflects strong house price (capital) gains over the period. But it also demonstrates how a feature unique to buy-to-let investing – ‘gearing’ (borrowing to invest more) – can work in investors’ favour. This allows investors to use the rental income they earn to be put down as a deposit on another property, thereby increasing their exposure to property in a rising
market and ratcheting up their potential to earn even bigger investment returns. The £14,897 figure Thomas has calculated is based on a buy-to-let investor reinvesting their rental income in a new property once it covers the cost of a 25 per cent deposit. But if the same investor had on the back of rising prices remortgaged to provide cash to buy more property, he says their investment would now be worth £34,732 – and they would have accumulated ten properties along the way.
‘Since the financial crisis of 2008, an era of low loan rates has provided landlords with an effective financial subsidy. Buy-to-let has been a hugely rewarding investment,’ says Thomas. Other posi- tives have driven forward the buy-to-let market. Demand for rented accommodation has remained firm. Analysis by upmarket estate agent Knight Frank indicates that four million households – 17 per cent of all households – now live in privately rented accommodation. By the end of next year, this will have grown to five million.
Strong demand means many landlords have been able to consistently push up rents, make a healthy income profit on their properties and nudge them in the direction of further investment property purchases.
Latest research from bank HSBC (done prior to Labour’s announcement on rental controls) suggests that many amateur landlords – those with portfolios of between one and four properties – remain in good spirits.
Its survey of more than 1,000 landlords indicates that average rental yields – rental income minus mortgage and maintenance costs expressed as a percentage of a portfolio’s value – remain robust at 5.7 per cent despite sustained house price inflation. With more than three in four landlords making an income profit last year from their portfolios, it says 23 per cent of landlords are looking to buy more properties in the coming 12 months.
Tracie Pearce, head of mortgages at the bank, says: ‘Confidence among small portfolio landlords is at its highest level for five years. It’s attributable to a number of positive trends – robust rental yields and continued strong demand across the UK for quality accommodation.’
The market is also awash with cheap buy-to-let finance, a function of low interest rates and the fact that banks and building societies are not required by the City regulator to put borrowers through the same onerous affordability tests that now apply to homebuyers under so called Mortgage Market Review rules introduced a year ago.
In addition, borrowers are able to access interest-only loans – mortgages no longer available to nearly all homebuyers who are required to take out repayment loans that involve higher monthly costs.
Although most buy-to-let lenders insist on a 25 per cent deposit, some are happy to lend to people as old as 70 and provide finance for 35 years.
‘Buy-to-let investors have a significant affordability advantage over wannabe owner-occupiers,’ says Matthew Pointon, property economist at thinktank Capital Economics. ‘Until such time that buy-to-let lending becomes subject to the same draconian regulations that govern first-time buyers and home movers, the share of lending going to investors will continue to rise. Buy-to-let investors have an edge.’
Until Labour’s announcement, it was difficult to find buy-to-let pessimists – as indeed it was hard to find anyone in the City in the late 1990s who thought the tech bubble would burst. Those who make their living from buy-to-let – agents, lenders, consultants – refuse to entertain the thought that things could go horribly wrong.
Some are paranoid, happy to supply data on buy-to-let ‘hot spots’ while declining to reveal details of buy-to- let ‘black spots’ that investors would be wise to avoid (many Northern towns fit this bill).
In his report ‘Buy-to-Let Comes of Age’, Thomas predicts annual returns over the next decade for buy-to-let borrowers of a touch over 11 per cent – six per cent for those who buy outright. Yet, when pressed, he concedes there are dangers lurking in the undergrowth – real dangers if Miliband strides into Number 10 Downing Street. A Labour-dominated Government, Thomas admits, would upset the apple cart if it carried out its threat of controls on the rent increases that private landlords are allowed to push through (it wants to cap them to the increase in inflation).
‘Political interference is a negative,’ he concedes, ‘but what would concern
me more about Labour is if rental price caps were just the thin end of the wedge. What would then stop it from looking to protect tenants more – through enabling more people, for example, to enjoy sitting tenants’ rights?’ Interest rates could also rise, pushing up the cost of buy-to-let finance and squeezing yields – a real possibility under a Labour administration less committed in practice to keeping spending down and deficits under control than in pre-Election talk. Higher interest rates would also cause financial havoc for buy-to-let investors leveraged up to the hilt.
Again, Thomas accepts higher interest rates are a potential blip on the horizon – especially in light of the fact that the minutes published from the latest Bank of England rate setting meeting indicate rate rises may come sooner than the market expects.
‘It’s the 64,000 dollar question as to whether interest rates will remain so low,’ he says, ‘but there are no strong indications that they are about to rise even though we are seven years out of the financial crisis. There is more disinflation in the world’s financial system and the only tools available to counter this are low interest rates and more quantitative easing – printing of money. The cost of money is being pushed down and that is terrible for savers, great for borrowers.’
Provided Miliband does not march into power on Friday, there seems little to suggest that a nation of amateur landlords is about to implode. But all bets are off if Red Ed fools the nation.