UK Commercial Property REIT

UKCM’s portfolio is well set up to be resilient to the current downturn…

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This is a non-independent marketing communication commissioned by UK Commercial Property REIT. The report has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is not subject to any prohibition on the dealing ahead of the dissemination of investment research.

UK Commercial Property REIT

UK Commercial Property REIT (UKCM) is the largest generalist commercial property trust in the UK. Manager Will Fulton, of Aberdeen Standard Investments, has been progressively tilting the portfolio towards the industrials sector in recent years; which now makes up over 50% of the portfolio and has been more resilient to the impact of the pandemic.

This approach has helped portfolio performance to be reasonably resilient in the crisis, as we discuss under Performance. Will’s prudent reduction of gearing last year has also been beneficial, and UKCM has the lowest gearing of the generalist UK commercial property trusts. While the outlook for commercial property is cloudy, UKCM is on a relatively narrow discount of 20% compared to peers. We believe this is due to the low gearing and the sector positioning.

In April UKCM’s board exercised caution and reduced its dividend by 50%. On an annualised basis this dividend equates to a yield of 2.7%. However, as discussed in the Dividend section, the reduced payout has been very well covered by earnings, meaning we believe there could be scope for an increase – although we acknowledge the crisis has not passed.

Will’s strategy is to identify locations and properties benefiting from structural market changes, for example the continuing shift of retail spending from physical stores to online. The focus within industrials, therefore, is on the logistics and distribution sites used by online retailers and delivery services, plus multi-let industrial estates in and around London which are themselves often housing distribution activity. Another element to that approach is the attention paid to ESG considerations, both in terms of site selection and asset management.

Kepler View

The board took a prudent, conservative decision to halve the dividend when the outlook for the pandemic was unclear in April. However the reduced 0.46p quarterly dividend was 1.6 times covered by earnings in Q2, with dividend cover of 116% for the half year. There seems to be scope for the final dividend of 2020 to be increased; although we acknowledge retailers and alternatives in particular could have a troubled second half too, and rent collection is unlikely to be close to 100%. Consequently we think the 2.7% yield underplays what investors are likely to get in the short to medium term.

Will has done a good job in attempting to future-proof the portfolio. But he could not ‘COVID-proof’ it, as the lockdowns were the ultimate black swan event for commercial property. Clearly his positioning away from high street and shopping centre retail and towards logistics has been helpful, and we think UKCM is well positioned for a slow return to normality.

Alternatives have been a drag in the short term, thanks to the lockdowns, but we think the pressure on retail property is likely to remain. Moreover the move to turnover-based rents would reduce the stability of income for which property investors invest. As a result, we think the broadened investment mandate should be beneficial from an income perspective in the medium term; while the core industrials exposure should display more resilient capital values through the cycle.

bull bear
A portfolio tilted to the top-performing and resilient industrial sector Commercial property is sensitive to GDP and the UK is passing through a downturn which may be extended
Low gearing reduces exposure to volatile markets and increases ability to be opportunistic Unpredictable outlook for alternatives sub-sectors in the short term
Scope for dividend increase depending on progress of recovery in the next two quarters Tail risk of second lockdown could be damaging to rent collection
Thomas McMahon
Thomas is a senior investment trust analyst and joined Kepler in April 2018. Previously he was senior analyst at FE Invest, where he was responsible for fund selection for a range of model portfolios. He covered all asset classes over time, but has particular experience with emerging markets and fixed income as well as UK smaller companies funds. He has a degree in Philosophy from Warwick University and is a CFA charterholder.

Fund History

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