Institutional investors increase exposure to UK hotels by over a quarter in 2019
The Outlook for institutional investment in hotels in 2020 remains positive, having accounted for 41% of total UK investment in hotels in 2019.
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The weight of capital invested into alternative property types during 2019 was significant, with the level of investment rising by 4.8% to approximately £17.8 billion, comparable to the level of investment in offices, but by contrast all other mainstream property types witnessed steep declines in investment.
In 2019, a scarcity of assets for sale in the hotel sector resulted in a declining market share of the hotel asset class in the UK Specialist Property Sector, contributing 28% of the total investment volume. However, robust levels of hotel investment by institutional investors, rising by 26% in 2019, reinforces the amount of capital being allocated to alternative income assets in pursuit of greater portfolio diversification as well as targeting assets and sectors with the greatest scope for income growth.
Total institutional investment into the UK hotel market totalled £2.5 billion in 2019, (including ground rent, fixed rent, developments and other long lease or variable lease interests) accounting for 41% of total UK investment. UK institutional investors, ranked as the top UK buyer, increased their investment in the sector by 2.25 times, to over £2 billion and secured the highest net capital inflows of all investor types, with £1.8 billion of institutional funds staying within the sector.
Image: The Grange Hotel, Tower Bridge – Knight Frank advised Aviva Investors on the acquisition of the ground rent.
Regional UK represented 75% of total fixed lease investment. With the growing demand for long-term, secure income streams, the average transaction price in 2019 for a fixed lease asset increased on average by 34% year-on-year, to £122,000 per room in regional UK. We have seen 25bps movement in fixed lease yields for trading assets, to 4.0% in regional UK and 3.75% in London.
Nevertheless, fixed lease investment activity fell by 43% during 2019, equating to 16% of total UK hotel investment, due to a lack of investment grade opportunities becoming available, but also in part due to covenant congestion. As such, there is increasing appetite to acquire core-plus and value-add real estate.
In 2019, development transactions totalled over £1 billion of development, with institutional investors instrumental in the provision of funds, accounting for 85% of the development funding, which represented 35% of total institutional investment into the UK hotels sector and a growing trend of local authority covenants helping fund hotel developments.
In the form of income strip deals, local authorities and other public institutions are increasingly being sought after to act as intermediary tenants, entering into 30 to 50 year lease agreements with institutional investors. In doing so, local authorities, provide a guaranteed income stream, while subleasing the building at a profit, to a hotel operator. The deal provides a mechanism to ensure that the freehold title transfers to the authority for a nominal value at the expiry of lease.
Meanwhile, ground lease transactions further increased their traction in 2019, whereby institutional investors dominated the market, representing 99% of investment. Ground lease transactions accounted for 32% share of total institutional investment in 2019, totalling approximately £765 million. The net initial yield for a ground lease transaction averaged 2.6%, with certain sizeable deals in London reflecting a NIY as low as 2%.
"Commercial ground rents are now a well-established asset class for investors and an attractive funding source for hotel owners. We envisage a strong pipeline of transactions entering due diligence, with the greatest flexibility offered to tenants with the strongest covenants. Investors need to have confidence in the long-term income generating capabilities and value of the asset.”
Shaun Roy, Head of Hotels, Knight Frank."
Total UK hotel investment volumes totalled £6 billion in 2019, the outlook for 2020 remains positive, with continued strong growth in institutional investment anticipated, seeking out opportunities which offer the greatest scope for income growth through value-added upside potential.
For more information or to see how Knight Frank can assist contact:
https://www.knightfrank.co.uk/commercial/sectors/hotels