The relentless growth of internet shopping, home delivery and urban living has driven demand for warehouses to new highs.
One company that’s benefited is FTSE 100 real estate investment trust Segro (LSE: SGRO), whose share price has doubled over the last five years.
In a trading update today, the company said that during the nine months to 30 September, it signed contracts for £52m of new rent. That’s 48% ahead of the £36.4m figure reported for the same period last year.
Looking ahead, the company has 891,000 square metres of property approved or under construction. Strong demand means that 71% of this has already been pre-leased.
Too hot to handle?
The logistics property sector is undeniably hot at the moment. One problem is that warehouses are often needed close to major cities, where land and property are in short supply. So when space does become available, it’s snapped up.
As investors, the question we need to ask is whether this situation can continue. I think it’s clear that this boom could still have further to run. But if people keep building, history suggests that at some point there will be too many warehouses. When that happens, the value of these properties will fall and vacancies will rise.
I prefer to invest in property stocks when they’re unloved and trading at a discount to book value. Segro doesn’t meet either of these requirements. Trading at 620p, the shares are priced at a small premium to their last-reported book value of 603p per share.
This strong valuation has pushed the stock’s 2018 forecast dividend yield down to just 2.9%. That’s below the 3% minimum I look for from big-cap stocks.
Although the firm’s finances still look healthy, I think the shares are starting to look quite expensive. I’d rate Segro as no more than a hold.
Studying for a profit
Another area of the property market enjoying strong demand is purpose-built university student accommodation. One of the big players in this sector is FTSE 250 firm Unite Group (LSE: UTG).
Like Segro, Unite’s share price has doubled over the last five years, as the company has reported consistent growth.
Last week, management reported that 98% of the group’s portfolio has been let for the current academic year, with rental growth on target at 3%-3.5%.
Unite’s focus is on “high and mid-ranked universities”, where demand should be most stable. To improve forward visibility on rent and occupancy, around 60% of its 50,000 bedrooms are now let under multi-year agreements with universities.
Should you buy Unite today?
The company plans to increase the size of its portfolio by a further 6,000 beds over the next three years. This seems reasonable to me, and I suspect student demand will remain strong. My only concern is that like Segro, Unite is starting to look expensive.
At the last-seen price of 842p, the shares trade at a 10% premium to their 761p book value. That’s not a problem if property prices keep rising, but it doesn’t provide any room for error if the market should slow, or profit margins fall.
For example, one potential risk is that Brexit could reduce demand from overseas students. Borrowing costs might also increase.
I like this business, but I don’t like the share price. For now, I’m going to leave Unite on my watch list and look for opportunities elsewhere.
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Roland Head has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.