Ben and his wife work in the City - but this only makes them warier of stocks and shares. "We've got enough risk to worry about in the day job," he laughs. After a protracted search process, they have opted to funnel their savings into two Manchester flats that, geared up with mortgages, offer a net return on equity of roughly 10 per cent. "I think there's an opportunity in the big Northern cities. The downside is fairly minimal and the upside is pretty good," he reflects.
Ben, who preferred to remain anonymous, is typical of a new breed of property investor. Before the crisis, the market was motivated mainly by fast-rising house prices – a trend many assumed would continue indefinitely. Now the principal driver of investment is the low return on cash and the volatility of shares. Property seems to offer an appealing compromise between the two, without the obscurity and complexity that taints other so-called 'alternative' investments.
Another important factor is the nationwide trend towards renting, which began soon after the turn of the millennium and has accelerated during the downturn. The sensitivity of this development among home-owning baby-boomers has encouraged the proliferation of media myths - it is not true, for example, that the average age of first-time buyers has been inexorably rising, as is often claimed (it has remained static at 29 since 2005). Yet it is clear that first-time buyers are richer and scarcer than they used to be, causing the private rented sector to expand rapidly.
As many as 3.8m English households now rent - up from 2.7m in 2007 (see chart 1). Meanwhile, housebuilders remain focused on the shrinking population of owner-occupiers, prioritising margin over volume. The combination of growing demand and inflexible supply has put pressure on rents and reduced the risk of losing a tenant, particularly in London.
This basic growth story makes UK residential property look like something of a bright spot in an investment environment otherwise bristling with risks. But big questions still loom. Above all, it's not always clear how the returns add up. After a very long and strong house price boom between 1995 and 2007 - from which prices have only fallen modestly - the average rental yield of property nationwide remains low. Many investors still expect house price inflation to help the investment case add up.
We explore this question in depth below. We also look at two potential headwinds that go unnoticed in the mainstream press - the rising burden of regulation and the competitive threat from corporate landlords. Finally, in 'Who are the tenants' below, we offer introductory profiles of the tenant and landlord populations for those readers who are new to the private rented sector.
Do the returns add up?
If you visit a local estate agent and compare house prices with rents, you may end up with a rather uninspiring notion of rental yields. A Savills report last year estimated that the average gross yield of residential property nationwide is 5.8 per cent. LSL Property Services, which owns a number of estate agent brands, finds an even lower gross yield figure - 5.3 per cent.
These are the figures that typically end up in the media. Net of costs, which are typically estimated at about a third of rental income if you count voids and repairs as well as management fees, the implied yield barely exceeds 4 per cent. That's more than the ever-declining return on cash, but less than the cost of a buy-to-let mortgage. It's not obvious that the outlook for house prices is so sunny that it's worth losing income on a negative carry trade.
Yet a whole-of-market average yield may be misleading. Buy-to-let specialists invariably achieve higher returns by focusing on specific types of stock in specific areas. Stuart Law of Assetz, the country's largest buy-to-let broker, says he can find yields of 8-10 per cent "every day of the week".
He cites a scheme next to the train station in Warrington, a commuter satellite of Manchester. It contains 75 two-bed flats, each costing £65,000 and offering a gross yield of 9.5 per cent. "This isn't a distressed deal, but the developer bought well and built well and the flats are well-priced. They're selling like hotcakes. We're seeing a lot of very nervous, cash-rich people who have never bought property to rent before suddenly becoming interested in this kind of stock. This isn't the old boom crowd. These are doctors and dentists," he says.
Graham Davidson, who runs a smaller sourcing agent called Sequre, also quotes yields of 8-10 per cent. He started in the wake of the crash by buying developments from distressed builders on behalf of consortia of investors who could provide cash quickly. Such deals still provide about half his stock, but he has since supplemented them by negotiating forward-funding packages on new developments. Like Mr Law, he favours city-centre apartments, above all in Manchester.
The Northern focus of these brokers is telling. But it may be possible to achieve similar yields in London if you source specialist stock in down-at-heel areas - or get someone to source if for you. Investor-cum-broker Richard Klin of Urban Capital sticks to a rigid discipline of renovating run-down terraced or ex-council housing with at least three bedrooms in inner East and South London. "We just bought a four-bed terrace in Surrey Quays for £230,000, spent £30,000 doing it up and now the rental income is £25,000 a year," he says.
But Mr Klin admits that finding attractive deals is much harder now than a year ago. "The market has come back a lot." The capital's economy remains buoyant, investor demand in the more central areas is rampant, and the supply of both new and second-hand homes is tight. Over the year to March, house prices in England and Wales grew by 3 per cent, according to the comprehensive LSL Acadametrics index, but strip out London and the growth was just 0.5 per cent. Such statistics encourage the view that stronger house price growth will easily compensate for the lower yields typically available in London.
It may, of course. If the Help to Buy scheme announced in the recent Budget goes ahead as planned, it will add to the inflationary pressures - possibly substantially - by relaunching the mainstream mortgage market. Mr Law, a notorious housing bull, expects house price growth to average 7 per cent nationally next year as a result of Help to Buy. With high consumer confidence but high house prices, London may well benefit disproportionately from the return of the 95 per cent mortgage.
Unlike rents, however, house prices are infamously cyclical. A global economic recovery could knock the capital's investment market off its roll by removing its safe-haven premium. Interest-rate increases look well off the cards for now, but could eventually spark a correction.
The point is not that these things will definitely happen, but that the future is uncertain. A strategy based mainly on house price inflation maintaining its momentum is inherently speculative - and all the riskier if debt is used to boost returns, as it often is.
We think it makes more sense to go back to investment basics and look for an asset that comes with a generous, growing income stream. This is what housing in the healthier employment hubs outside of London, or in some of the grubbier bits of the capital, seems to offer. Rental growth statistics are frustratingly unreliable, being typically based on small samples of new lettings (although a new rental index due to be launched by the Office for National Statistics later this month should be more authoritative). But both the LSL and Countrywide indices support the picture of growth painted by anecdotal evidence (graph 2). That's evidence that economic demand for homes exceeds supply, while high yields suggest the imbalance has not yet attracted widespread attention. To our mind, that's the time to buy.