Tenants take advantage
There was a clear shift in the balance of power between landlord and tenant in our markets in 2020. Rents have fallen and, during the pandemic, tenants have been able to demand concessions that would be unthinkable and probably unreasonable in any other circumstances.
2020 has been a difficult year for many people with health concerns, job insecurity and reduced earnings. The shared experience has often strengthened communities and bolstered family ties but it has been a disappointingly divisive period for some landlord/tenant relationships in our markets. The government introduced a complete ban on evictions so that no tenant could be asked to leave their home even if they were unable to meet their rental obligations which is designed to protect tenants against unreasonable landlords but can create difficulties for landlords operating a well-managed business.
Landlords with properties to let have had to tolerate unusually long void periods before they find tenants and even then, only once they have accepted that rents have fallen steeply. Many tenants have secured additional reductions on reduced asking prices.
Measures were introduced to protect tenants who might get into difficulties meeting their rent payments. On 26th March 2020 the Coronavirus Act came into effect obliging landlords to give tenants three months’ notice of an intention to seek possession. Under this law, which applies until 31st March 2021, landlords cannot apply to start the court process until after the three month notice period. From 27th March, the court service suspended all ongoing housing possession action – effectively suspending a landlord’s rights to evict tenants during this period. Landlords struggling as a direct result of coronavirus, could apply to their mortgage lender for a repayment holiday.
Rents began to decline in Q2 and then stabilised in the normally busy Q3 seasonal peak but by Q4 then were once again sliding downwards. Much of the activity was driven by tenants relocating to negotiate a lower rent, or more space for their money. By the year end, rents were down by 13% overall and by 20% in the centre of the City. In some instances, rents have been agreed at 30% below their previous achieved levels and sometimes with long fixed rent periods agreed. Landlords, anxious to cover their base costs of services charges, utility bills and mortgage payments, were ready to agree generous concessions in return for a source of income.
The change is, in our view, an ‘over-correction’ and will be reversed within the next couple of years as leases end and rents are restored to the prevailing open market level. The tipping point will come when office workers return and business and leisure travel picks up so that the excess rental stock is absorbed. Unlike the sales market, an annual rent fixed at a low point in the market will only last as long as the market conditions persist and can be quickly corrected with a new letting at market value.
Yields are broadly in line with their 2013 level because falls in capital values since 2015 have now been matched by falls in rental values in 2020. The gross yield for a one bed apartment is around 4.4% while a two bed apartment is now closer to 3.6% and less than 3% for a three bed. All three compare well to the interest rates available on cash investments and mortgage interest remains low. The greatest threat to returns in 2020 has been the risk of a prolonged void period. For that reason, landlords have been open to negotiation in a way that we would not expect to last long past mid 2021.
It is also the case that the foundations are more secure than in previous recessions. When the Global Financial Crisis hit the housing market, prices had been rising strongly and affordability was stretched. This current crisis has struck after a period of slow or negative price growth and at a time when affordability had been rebalanced to some extent. It means that sellers had already begun to adjust to new expectations and buyers are less likely to fear buying in a falling market.
Investors can feel optimistic about the prospects for rental growth because there are three strong sources of demand that can reasonably be expected to return in 2021: once offices re-open, overseas students return and travel is resumed.