Property in London is no longer a safe investment

What the referendum result highlighted is the difference between London and the rest of the UK, particularly north of Watford. London voted overwhelmingly to stay. So did Scotland and Northern Ireland and a handful of English cities like Cambridge, Oxford, Liverpool and Bristol. But England, especially England north of the Thames, voted to “Leave” Europe.

The economic and social divide that led to the protest vote and was partly responsible for the “Leave” result has been much-discussed in recent weeks, and its existence seems to have taken people by surprise. Yet the data has been showing this divide clearly for some time.

Now the Brexit vote has raised serious doubts about the ability of the City to remain the financial centre of Europe. Much of the euro-denominated clearing the City does is in doubt. The “passporting” arrangements that allow financial institutions to sell anywhere in the EU from a London base may disappear unless a deal can be struck. The myriad services on which the City depends, involving accountants, lawyers, consultants and other professionals could suffer following the end of full access to the single market. It is feared that any restrictions on the free movement of people will affect the growth of the creative and high-tech sectors which all depend on skills which are imported. Foreign direct investment will suffer. Of course that might all shift the balance in favour of cities elsewhere in the UK—but in reality London is a net contributor to the economy of the whole of the UK. If London suffers the UK suffers.

House prices had until recently also shown a serious north/south divide. The average house price in London at £472,000 is more than twice the UK average, which is £200,000. The closest cities to this figure are Oxford and Cambridge at just slightly over £400,000. Average house prices in Glasgow are £111,600 and in Liverpool, £112,700. But the rise in London prices had begun to slow as a result of referendum uncertainty and the April 2016 tax changes. Also, people who were unable to afford to live in London were beginning to buy elsewhere, usually within commuting distance of London. True, prices in the UK rose by 8.1 per cent in the year to May while in London they rose by 13.8 per cent. But over the same period, Slough in the south east saw its house prices rise by 23.3 per cent.

Affordability is key. Luxury apartments which were favoured by developers have been hit by lower investor interest as stamp duty increases for expensive properties and for second homes, combined with “Buy to let,” has cooled demand. The global economic slow-down has also not helped. New house sales in the second quarter of 2016, the period preceding the referendum vote, fell by 34 per cent when compared with the same quarter a year earlier. This is a three year low. And indications are that this slide has continued since.

This is hardly surprising. Economic forecasts have been revised sharply downwards for next year and very low or near-zero interest rates are bad news for financial sector profitability, especially for banks. Jobs will be lost. London is facing the prospect that immigration flows on which it depends could well be reversed.

So what next for London’s house prices? Given the rise in the first half there will still be some growth overall, but a rise below seven per cent is expected for this year compared with a 10.1 per cent increase in 2015. But the path from here on will be fraught. The Centre for Economics and Business Research forecasts that house prices in Q3 will be five per cent below what they were in Q2 of 2016, and that they will be another four per cent lower in the fourth quarter. Prices are expected to decline by a further 5.6 per cent over 2017. With interest rates though at record lows—possibly even falling further in the future—householders should be able to ride that through. But they will feel poorer, and this might change their willingness to borrow and spend.

There may of course be some mitigating counter-pressures. The sharp drop in the pound may rekindle interest from foreign buyers for more expensive properties and there are some signs of that happening. But estate agents are already reporting a large increase in the number of properties being offered with a sharply reduced price tag in recent days. The Royal Institute of Chartered Surveyors in mid-July reported that “12 month pricing expectations have now turned negative in London and the South East” and that activity across the UK has taken a hit since the referendum. The Hometrack service expects prices to fall in the second half of this year, particularly in London.

Logic does rather insist that property in London will be more impacted by Brexit than elsewhere in the country. After all, a loss of EU membership shakes London's status as a “gateway to Europe.” In addition, many sectors particularly vulnerable to businesses partially re-locating, such as finance, are heavily concentrated in London. And London is most at risk of this as it has the highest share of residents born in other EU countries.

In the past, international investors have poured money into London property, which has been regarded as a safe haven. That can clearly no longer be guaranteed.

Beyond 2017 much will depend on a return of confidence. The nature of the UK’s relationship with the European Union that takes shape over the next few years will be crucial.