The CIO Agenda: Solving the UK's Housing Crisis

Britain’s housing market is in crisis. Median property prices are 10 times higher than median incomes in the South East and over 30 times in parts of London. Demographic pressures and the rise in foreign investment in residential property have coincided with a significant reduction in government investment in social housing.

For real asset investors, this offers an opportunity to deliver real impact for a local community through the development of new homes while also ensuring they achieve their return targets.

Shamez Alibhai, Head of Community Housing and Portfolio Manager at Man GPM, joins Sandy Rattray and The CIO Agenda to discuss the socially responsible impact and alpha on offer from solving the UK’s housing shortage.

Recording date: 28 April 2021

Episode Transcript

Note: This transcription was generated using a combination of speech recognition software and human transcribers and may contain errors. As a part of this process, this transcript has also been edited for clarity.

Sandy Rattray (00:04):

Welcome to the CIO agenda. I'm Sandy Rattray CIO at Man group. And today we're going to be talking about the UK's housing crisis and the opportunity to deliver social impact. I'm joined by Shamez alibi, head of community housing and portfolio manager at Man GPM. Welcome, Shamez. So our title today Shamez talks about a housing crisis, but most people will see housing prices rising quite strongly and think there's no crisis at all. So what's the crisis?

Shamez Alibhai (00:35):

I think it is where you are in that distribution, Sandy. So if you are currently an asset owner and you see your property prices going up faster than your wages, that's clearly a good thing, but there's large parts of the population that have been left behind starting in 1995, and prices really started to escalate and for whom housing has effectively been priced out. So if you're a median earner today and you haven't been fortunate enough to be on the housing ladder, that median house price to your income is 8.4 times. And if you are in a place like Cambridge, that's 13 times, there's a large part of the population that has just effectively been excluded by what has been a pretty fantastic ride in house prices over the last 25 years.

Sandy Rattray (01:21):

And so if we contrast that then with what an equitable housing market might look like, then can you give us a sense of what does good look like?

Shamez Alibhai (01:30):

In terms of what a good housing market is? I would say that we have to start with the principle that housing is a basic need. It's it's not a luxury people. Shouldn't be looking at their house as an asset in the first instance. And so from that, I would suggest that housing needs to be affordable to households either whether they're renting or whether they're owning, it needs to be of good quality. It needs to be modern and environmentally efficient. And it has to be in an area that is close to their work or their family. And I think that the actual physical bricks and mortar, and then beyond that, they are entitled to have a landlord or a freeholder that is managing the area well where service charges are reasonable. And that's not just today, but as that family stays in that property, how is that neighborhood maintained? How are service charges inflated? And we've seen that over the last few years. I think the housing market has failed in this country. There's been no shortage of scandals around what bad looks like. Um, we've seen the unfortunate consequences of Grenfell. We've seen the scandal of ground rent increases on houses doubling every 10 years, and then you've seen high service charges for a lack of transparency on slatted buildings and departments. So I think there's a long way that we need to improve the housing market in the UK.

Sandy Rattray (03:00):

Let's move in a moment to the balance of supply and demand in UK housing before we go there, financing of housing, particularly mortgages. So I think my first mortgage I took out and I paid 14% a year on that mortgage, not so long ago, 6% to 8% was the norm. And now we're below two. So is this one of the big drivers of house price boom?

Shamez Alibhai (03:23):

There is interest rates and the availability of credit have played a huge role in the increase in house prices. If we go back to 1999, that's when Northern Rock first introduced its Together mortgage Sandy. I don't know if you recall that, it was 125% loan to value mortgage. Soon after we had self cert loans, we had liar loans. Um, we had interest only loans. And so not only has there been a function of interest rates, but it has also been a function of that availability of credit and what the interest rate environment has done. And, you know, going back to the early 2000 rates were around four to 5%, as you pointed out for mortgages and house prices were still increasing. So what the lower interest rates have allowed households to do is to effectively increase their effective leverage. And so you've seen a period where that leverage ratio has increased both in terms of a capital to house.

Shamez Alibhai (04:20):

You know, the loan to house price ratio or to income has increased, but the interest rate has allowed income ratios or the interest coverage ratio to fall. And I think that's been a big element of the story, but I don't think we should forget the supply side as well. And I think there is a big, big issue around what has been going on the supply side. If we go back to the 1960s, we built 3.1 million homes in that decade, in this last decade, 2010 to 2020, we were building a third, 1.1 million homes and that's despite growing population growing households. The reason for that has largely been an increasing concentration in the housing sector where you now have the top 10 builders accounting for 40% of all new build homes. And that's very unusual. The UK has one of the smallest SME builder contributions at 10%. The European/US averages are closer to 40%. So I think it's right for people to look at the demand side, but I think there's something also fundamentally going wrong with the supply side as well.

Sandy Rattray (05:27):

So let's just dig into the supply side a little bit more because there are those that argue that he rate of creation of new housing units exceeds the rate of household formation in the UK. And so actually supply and demand are roughly matching against each other. What in your view is wrong with that argument?

Shamez Alibhai (05:47):

I think some of the things that are missing from that argument is the rate of household formation is the consequence. It's not the driver. So there we've seen the amount of overcrowding has increased in the UK. Intergenerational living has increased. Now that may be a consequence of choice, but I think there is also a consequence of a lack of affordability where younger households are staying longer than they would have historically. And you can see that by the average age of a first-time buyer has increased by almost 10 years since 1995. The other thing that I think we need to look at is it's where the housing being built and what's the quality of the housing. So if we strip away things like permitted developments and flat conversions, again, that number looks a lot lower. You know, the types of places that people want to build/live in are places where there's good gardens, there's good, commuter hubs, et cetera.

Shamez Alibhai (06:44):

So if you start to look at the, not as an average number, but as decompose that into, into the bits that what do people want? I don't think we're building enough houses that people want. You know, the UK is one of the most inelastic housing supplies in the OECD. We are below the average, there was a study that was done by the OECD that for example, to put it in context, the US had an elasticity measure of 1.6. The UK's number I believe was around zero and 0.5. So there is a lot more we should be doing to respond to the demand in the housing market. And that inelasticity number really demonstrates that the supply side isn't doing it.

Sandy Rattray (07:27):

And that inelasticity is a function of the planning process or something else?

Shamez Alibhai (07:34):

I think it's, again, more than the planning process we've seen over the last decade, a lot of interventions around planning where people have looked at the planning system, you know, is that at fault? And again, denied that the planning system is complicated. You know, that's, for example, something as a price, it's very difficult to price planning risk. So, but that being said, it does work. You know, there are more homes coming through the planning system than are actually being built. I think one of the issues around planning is really, again, going to this issue of this oligopolistic market that is developed in the UK. The top six firm house builders in the UK control a million plots and of that 935,000 are held by the top three. So there's a tremendous concentration of planning approvals amongst a very small group. And just to put that number in context, 1 million plots, the top 10 house builders delivered 86,000 homes in 2019.

Shamez Alibhai (08:36):

So there's a long gap. There's a lot of open water between planning and delivery and in an oligopolistic market. I do not think it is in the interests of the larger house builders to increase supply in a way that would dampen the rate of house appreciation in the UK. So I think there's a lot of issues around the politics of this. You've seen the government to try to address this failure of young people being able to get onto the housing ladder by introducing help to buy. And I think, again, the results there has been unequivocally that that's pushed up house prices.  

Sandy Rattray (09:14):

So let's now talk about the case for investing into housing. Historically, institutional investors have largely invested in commercial real estate, office buildings and malls and warehouses and things like that. So what's the case for investing in much smaller units like housing.  

Shamez Alibhai (09:34):

There has been a very significant shift that has been gaining momentum for some time Sandy. And I think it has really accelerated like many things because of the COVID crisis. What we have seen through COVID is that areas historically of the commercial real estate market, which were deemed to be stable, robust, have really been questioned. Naturally COVID is highlighted some of the stresses and the repricing in the hospitality and leisure sector. It accelerated the change in retail very dramatically, but I think it'll also have an effect on the office space and the office market. A lot of commentators have argued that overall demand for office space will shrink by approximately 20%. What that in our view will do is shift capital towards ultra prime assets, very core assets. And you'll see a widening of core plus assets, both in terms of yield and in terms of pricing power in terms of rental growth.

Shamez Alibhai (10:31):

So investors are looking to fill that gap in their real estate portfolios that are being left as various historic assets, real estate asset classes have been reprofiled and residential as a big part to play in that in the last two crisis, you have the GFC and you have the COVID crisis, two very different crises, very different routes in both those crisis, residential performed very well in the UK. You can see that through the housing association sector and through some of the listed housing REITs which have done well, our colleagues and Man GPM in the U S with the single family rental business have shown that that part of the housing sector has again, performed exceptionally well through the COVID period. So from a diversification perspective of a real estate portfolio, residential housing clearly has very different drivers, very different factors that will drive overall returns. And so I think investors are increasingly looking to increase their exposure to residential assets and the diversification it provides in a real estate portfolio.

Sandy Rattray (11:34):

So Shamez, could we talk about how returns from investing in community housing would differ from other residential property, investment strategies, student housing, for example, build to rent type schemes. What's different about community housing.

Shamez Alibhai (11:54):

The key difference with community housing, Sandy, in that list of, you know, build to rent and student housing, I would also add social housing is that all of those are mono-tenure approaches where that entire development is a single type of property. For example, as you said, student or rent. In community housing, the properties are divided across different types of housing tenures. So there'll be some properties for social rent, some properties for key worker rent, some properties for market rent, some properties for shared ownership, et cetera. And what that allows from an investment perspective is a diversification of risk and a diversification of the drivers of cash flows. And that's one of the key differentiators from a returns perspective between some of the more mono-tenure investment approaches in residential,

Sandy Rattray (12:40):

Let's talk more about mixed tenure and social housing from the perspective of impact. So many people might consider this an impact investing strategy. Maybe you can help us define, you know, what really is impact investing and how much do you have to do to qualify to be an impact investing strategy?

Shamez Alibhai (12:59):

That's a great question, Sandy. And I think, you know, when you look at the word impact, lots of investments, a lot of our activities day-to-day create positive impact. So it's not enough to say that you've created a positive impact. I think it's very important that you have that intentionality to create a positive impact and to define what areas of positive impact you want to drive forward and what are you doing versus a traditional investor. So in community housing type of approaches, the areas that I think are really important from an impact perspective is to look at additionality, building new homes, considering affordability. So can a person on the median wage in that area actually afford to live there? Looking at environmental sustainability, et cetera, and setting these out at front, being very clear about them with investors and with the communities in which you're involved, that you invest in is what really defines setting out your impact strategy.

Sandy Rattray (13:54):

So many people might be worried about for-profit investors starting to become involved in an area which has historically been dominated by housing associations, by councils and by other charities. So how can people get comfortable with the presence of for-profit actors in this area?

Shamez Alibhai (14:14):

First of all, Sandy, I think this is a huge problem. And this is a problem that has now exceeded the resources of the not-for-profit sector, the governmental sector. We estimate this as a 16 billion pound problem per annum, that's far larger than those sectors that you mentioned can support. So we do need private capital to come and take a look at this. And I think you're right. There is a lot of concern around financial players approaching this space. And that's why approaching this as an impact investor, where you've set out very clearly what your objectives are is important, but then it's also important to be held accountable to those objectives. And so for that best practice is very much looking at an independent audit, which has made publicly available of your social outcomes. So you state what you are going to do from an impact perspective, and then you audit that. And then the other thing that I think is very important is that you follow that over time. It's not enough to say that you were socially responsible on day one. You have to continue to demonstrate that you have acted in a socially responsible way over the life of that investment. And I think if you put those principles in place, then the private sector can work alongside the public sector.

Sandy Rattray (15:36):

And again, people might be a little cynical or skeptical on this. So let's dig in a bit more, firstly, the auditing. So who, who does the auditing and secondly, on your continuous monitoring over time, what happens in strategies like this and community housing strategies, if people deviate from those objectives, what are the consequences for the investor?

Shamez Alibhai (15:57):

So in terms of the auditing, it's very important that that auditing is done by an independent party. It's important to find a organisation that has a credibility to provide an independent social audit that audit must be paid for by the fund, not by the manager and the auditors need to respond to the board of that fund and to the investors directly. That's a very important element of independence. The second thing is to have an external perspective. So again, best practice is looking at providing an independent member of the investment committee. Again, renumerated by the fund, not by the manager who can actually opine on the social impact of each investment that's being done. And isn't incentivised to say, yes, that's a social impact investment. So again, some very clear principles that can be put into place around what happens if you don't follow that. That's a great question, Sandy.

Shamez Alibhai (16:53):

And I think it's, again, it comes down to the way the documents, the constitutional documents have been set up and there must be a way and clear targets set out within the constitutional documents that allow investors to remove the manager for underperformance on social and impact issues or environmental issues that are being set out in the prospectus just as they would for financial matters. So I think it is very important to make that information public, to investors, and then they can act as the catalyst for ensuring that the manager is doing what they said that they are doing.

Sandy Rattray (17:29):

And could you give us some examples of metrics, particularly for things like measuring the strength or diversity of a community in community housing? So what are some examples of metrics that people would use to measure that?

Shamez Alibhai (17:44):

Community housing really has to reflect that there are people at different points in their life, different points in that journey of housing. So one of the really important things is to really demonstrate that you can create that ladder of affordability. You have products around home ownership around rental that can be accessed affordably by people at different price points. So be able to be able to show that ladder of affordability. And you're going to be able to demonstrate that by looking at income levels and showing what income level would you need to be able to access that home and ensuring that there is a reasonable mix across the development. And if you can establish that early on and set that out, that goes a long way to generating the overall effect of creating a place that meets the needs of an entire community.

Sandy Rattray (18:34):

Okay. So let's move on now and talk about risk and to talk about the risks that would be associated with community housing strategies in general, property, real estate investment strategies often have involved quite a lot of debt and in the end, quite a lot of volatility and sensitivity to economic cycles. So what are the risks involved in community housing strategies?

Shamez Alibhai (18:56):

If we start at the beginning of the process and that there is an element of where do you want to start, where do you want to start looking at that lens or that investment process? Really the first risk, if you're focused on additionality, which is delivering new homes, the first question you have to ask yourself is, am I willing to take planning risks? And that's a very important question because that's going to change the return profile very considerably. If you're trying to achieve the level of returns that are commensurate with the social objectives that you're trying to do. I think planning risk is very difficult to absorb. So it's probably best to put that aside. I think the other risk, which in addition to, you know, your volatility, but you mentioned around the correlation to GDP and economic growth. I think one of the risks that you really have to consider is regulatory risk, housing has always been very much in the crosshairs of politicians.

Shamez Alibhai (19:44):

And especially when you start to look at some of the more regulated sectors. So when you actually are looking at social housing or anything that the government has set up as an affordable housing tenure, you have to consider the regulatory risks around that. And you also have to start thinking if you're doing community housing, you're also going to have some exposure to the long-term market risk. So you're not exposed to so much of the short run volatility of the house price process, of the rental process, but more the long-term volatility and the long-term prospect around capital and rental growth.

Sandy Rattray (20:17):

And then governments are clearly going to play a role in the housing strategies, governments come and governments go, they have new policies, planning, policies change. So how do you navigate that ongoing set of governmental change that you're likely to face over a long-term investment strategy?

Shamez Alibhai (20:38):

I think that's one of the strengths of community housing Sandy's that you can respond. You know, if you are kind of in a mono-tenure approach, you highlighted for example, student or build to rent or social. If you're in one of those mono-tenure strategies and rules are changed, it's very difficult to pivot away from your strategy. By having community housing, where you have access to different strategies, you can respond to regulatory changes by shifting your portfolio allocation. So you're not stopped out or affected, but regulatory risk is something that is definitely an element that has to be part of the process. But if you are acting in a way that is sustainable, we've seen this with respect to the private rented sector in places like Berlin in San Francisco, in London, where rental growth was far exceeding wage growth, there is going to be a natural pressure from regulatory bodies to say, this looks like a lot of rent-seeking activity, and we're going to clamp down on this. So again, being an impact investor and approaching things from a sustainable perspective, increasing rents in line with inflation, I think acts as a defensive break against some of the regulatory pressures that would otherwise exist in the system.

Sandy Rattray (21:53):

Now let's move on just to look at the outlook for community housing. So you said, I think that there's 60 billion pounds worth of investment needed. So how much can the private sector contribute to that and how much do you expect it to contribute?

Shamez Alibhai (22:08):

The numbers in terms of demand are 16 billion of capital for the next 15 years, just to meet the existing demand that doesn't take into account any marginal growth of demand. So it is a 240 billion pound problem. Sandy, that is interesting from a private sector perspective because it ensures that as an institutional investor, you know, there is scope for this to grow. As an asset class, we have started to see a lot more capital flow into the area. You've seen some great institutional investors enter this space, Legal and General, have entered this space, M&G have entered the space, but I think there's a lot more that needs to be done. And I think it's overall constructive to have a growing amount of socially responsible capital increasing in the space. So if I had my wish in five years time, I'd love to see the market triple, quadruple, and have that grow in a way that is socially responsible and looking at investing in community housing through an impact.

Sandy Rattray (23:09):

And is your wish realistic? Is that where you think we'll end up?

Shamez Alibhai (23:12):

Yeah, I think it is possible that we'll see that level of capital inflow. We've seen capital markets respond very quickly in other areas of ESG where financial returns have been well articulated and demonstrable. And I think that you can make a similar case for community housing, with respect to both its social outcomes and its financial outcomes.

Sandy Rattray (23:33):

So to sum up, we have a crisis of affordability in UK housing today, which investors in community housing projects can be a big part of solving and achieve very satisfactory returns by doing that. Thank you for joining us today Shamez.

Shamez Alibhai (23:52):

Thank you very much, Sandy for your time.

Sandy Rattray (23:54):

And thank you to our listeners who can follow The CIO Agenda on Apple Podcasts, Spotify, and other podcast platforms to receive each new episode.