In recent years the data has mounted up that investments that score highly on the “E” and “G” of ESG (environmental, social and governance) should perform well.
The data to show this to be the case with “S” factors has proven more elusive.
But we think there’s evidence to suggest that through social impact investing, real estate investors can meaningfully contribute to a healthier and fairer society, while also securing compelling returns.
Investments defined as “impact investment” have an explicit objective to generate positive social and/or environmental impact alongside a financial return. These investments must aim to deliver positive outcomes that are intentional, measurable and cannot be incidental. This is known as “additionality” – outcomes that would not have otherwise happened.
How the regeneration of Kings Cross, London, has delivered returns
Empirically, there are real estate investments which have delivered both a strong social impact and an attractive financial return. One example is the regeneration of Kings Cross in London. 25 years ago this was a deprived area with multiple social problems. Now, thanks to public and private investment, it is a thriving neighbourhood with new housing, bars, restaurants, the University of Arts London and offices let to well known IT companies.
Investors who committed early in the scheme have enjoyed strong returns. Prime office capital values in Kings Cross have risen by 200% since 2000, against a central London average of 125% and residential prices have overtaken neighbouring areas.
The opportunity in social supported housing
Another example is building new specialist housing for people with learning disabilities, so that they can live semi-independently in the community. Surveys show that people who have moved from an institution into social supported housing gain in confidence and mental health1. We anticipate ungeared total returns on social supported housing of around 8% p.a., once schemes are built and occupied.
However, there are examples the sceptics could point out.
General needs social and affordable housing is for people on lower incomes who cannot afford to pay market rents, or buy their home. If owners of general needs social housing cannot charge market rents and building costs are not substantially lower than for market housing, then surely they have to accept lower financial returns?
There are around five million social and affordable homes (henceforth referred to as social housing) in the UK. These homes are owned and managed by local authorities, not-for-profit housing associations and for-profit registered providers.
Despite the acute need for social housing as the population has grown and as owner-occupied housing has become less affordable, the stock has barely changed since 2005. The addition of new homes has been offset by sales to tenants under the Right to Buy / Right to Acquire schemes. New rents are set locally2 and are usually indexed to inflation, although the rate of indexation is periodically reviewed by the government and is not guaranteed.
In this context of high demand / low supply, how has social housing performed financially compared with other types of real estate? Unsurprisingly, given that the main priority of social housing landlords is to provide housing for people on lower incomes, rather than maximise financial returns, there is limited long term data.
However, Jones Lang LaSalle (JLL) does compile data on the capital growth of general needs social housing in England, as a leading valuer of the space. The data are based on what’s called existing use value for social housing (EUV-SH) valuations. This assumes that both the buyer and seller are registered providers, and that the housing will remain social housing in perpetuity and not be sold for private rent, or owner occupation. We are grateful to JLL for sharing this data.
Why we favour existing social housing
In simple terms, there is little doubt that building new social housing is less profitable than building homes for sale, or market rent.
The average value of social housing in the JLL sample was £67,000 at the end of 2021. The average value of the same homes if they were rented in the private market would be around £200,000.
Of course, new social housing may benefit from government grants, or from planning interventions which reduce the cost of land3. Even so, these subsidies are unlikely to fully match the 15-20% profit margin which developers typically earn from building new homes for sale.
However, the picture is different if we consider investing in existing social housing, rather than development. The chart and table below compare the capital growth of the JLL sample of general needs social housing with that of the MSCI UK Annual Index over the last 10 years.
It’s worth noting that the data are not strictly comparable4, given some differences in the ways the data are compiled. Despite this, we can draw three broad conclusions.
Social housing has seen faster capital growth
First, taking the period since 2011 as a whole, existing general needs social housing has seen faster capital growth (3.4% p.a.) than the average for existing UK investment real estate (2.6% p.a.). At a more detailed level, general needs social housing appears to have seen similar long-term capital growth to offices and has only lagged slightly behind private rent residential.
Although JLL does not calculate income returns, net yields for general needs social housing are around 4%, so it seems likely that annualised total returns over the last decade have been similar to the all property average (7.6% p.a.).
Figure 1: Existing Buildings Capital Growth %
Table 1: Existing Buildings Cap. Growth, 2011-21
Capital growth in social housing has been more stable
Second, as can be seen in the same graph, the capital growth in social housing has been more stable than for other types of real estate.
It could be argued that the low standard deviation in the capital growth of general needs social housing, compared with other types of real estate, means that it carries less risk. However, we think that volatility is a simplistic measure of risk. A fairer assessment is that general needs social housing presents investors with different risks.
Given the overwhelming need for social housing and the government’s commitment to pay the rent if residents cannot afford to pay, social housing is more insulated from the economic cycle than other types of real estate. On the flip-side, however, the highly regulated nature of the sector means that investors are more exposed to changes in government policy.
For example, between 2016-2019 the government unilaterally required registered providers to cut social housing rents by 1% per annum in order to rein in its spending on housing benefits. This changed the income profile and led to a period of weak capital growth. The current government has committed that social housing rents will be indexed to inflation (CPI) + 1% until 2025.
Social housing is less correlated with other real estate
Third, it follows from the above that general needs social housing is less correlated with other types of real estate. As a result, adding this strategy to a real estate portfolio should lower the total risk and improve risk adjusted returns for the total portfolio (i.e. diversification benefits).
A better social contract
We believe that real estate impact investments with good governance and defined targets go hand-in-hand with attractive financial returns.
Although limited, the data available suggest that social housing and regeneration projects can generate sustainable incomes and deliver returns which match or exceed the wider market over the long-term. These projects can do so while meeting the needs of local communities.
Real estate which has an explicit social objective may also be more insulated from the economic cycle than other types of real estate and offers diversification benefits. Investing in real estate which has a positive social impact could therefore improve the risk-adjusted returns of a balanced portfolio.
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- Funding Supported Housing For All. 2018.
- Rents are set by using the formula set out in the Policy Statement on Rents for Social Housing and the Rent Standard and Guidance. Rents for social housing are typically around 50% of market rents and rents for affordable housing are up to 80% of market rents.
- Half of new social and affordable homes built in England in 2020/21 were part of Section 106 planning agreements with private developers. DLUHC Live Tables 1000.
- JLL’s data on social housing covers England and the national average is based on regional data which have been weighted to reflect the stock of social housing in each region. The MSCI data is for the UK and is unstructured by region, with a higher exposure to London. JLL’s capital values include provisions for future capital expenditure (e.g. better energy efficiency, remediation of unsafe cladding), whereas the MSCI capital growth series are adjusted for capital expenditure which has been incurred.