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There can be no denying that this column has made a bit of a hash of its position in Derwent London, not least because we failed to lock in a profit when the property company’s shares briefly traded at a premium to net asset value in early 2020.
Dividend payments are still helping to salve the wound. Just as importantly, the property portfolio remains prime, rental income is growing, the balance sheet is robust and the valuation even less demanding than at the time of our initial study seven years ago.
At that time Derwent London’s shares were trading at a 35pc discount to their net asset value as markets pondered what Brexit would bring to the economy and demand for sterling-denominated assets.
Granted, we have since witnessed a pandemic, the rise of home working, or at least hybrid working, and a surge in interest rates. The result is that net asset value per share has slipped by 4pc to £34.44 from £35.98 over those seven years.
But share price weakness has taken the discount to NAV to 41pc and while this column takes on board the threat posed by the change in working habits it cannot but think this is too great a gap.
The best investments are often those made when other investors are giving up in the view that the news is bad and can only get worse. Better still, Derwent London’s third-quarter update published earlier this month offers some grounds for optimism.
Most importantly, there is still demand for well appointed, modern London office space. The vacancy rate is down to 3.7pc (from 5.2pc last December) and rental rates are firm, to give support to property valuations and the net asset value calculation.
Shrewd financial planning – no doubt the result of bad memories of the 2007-09 financial crisis and property downturn – means that the average interest rate on Derwent London’s debt is just 3.2pc.
The net debt position, of £1.3bn as of the end of the fiscal first half in June, equates to a modest 26pc of the company’s £4.9bn of property assets. Income from property comfortably covers interest payments.
Granted, the shares could stay cheap if a recession hits and working from home becomes even more prevalent, but the valuation appears to take account of a lot of bad news and not much good. More businesses are nudging staff back to the office; others are returning so they don’t go potty as they sit at home alone.
WeWork, the bankrupt flexible office provider, is nowhere to be seen in the list of Derwent’s 20 biggest tenants, unlike Expedia, Burberry, Sony Pictures, Accenture and Boston Consulting Group, as well as public sector bodies such as universities, government departments and the NHS.
As we wait for some good news – and interest rate cuts from the Bank of England would help – Derwent London’s rental income allows it to continue to pay a dividend. Management sanctioned a small increase in the interim distribution to 24.5p a share to take our total haul to 617.5p over seven years, equivalent to a quarter of our purchase price.
The darkest hour usually comes before dawn and it looks very dark at Derwent right now. Hold.
Questor says: hold
Ticker: DLN
Share price at close: £20.28
Update: Lancashire Holdings
A knock-out trading update last week from Lancashire means we are in the black with the non-life insurer we covered in May 2021 and with the valuation low, balance sheet strong and pricing firm, further positive total returns, via share price gains and dividends, remain quite possible.
A 23pc increase in gross premiums written in the first nine months of 2023 is testament to strong pricing across the Lloyd’s of London syndicate manager’s specialist areas of property insurance and reinsurance, aviation, terrorism and political risk.
Meanwhile, natural disasters in America, New Zealand and Turkey have not led to losses of any great substance and higher interest rates and bond yields have helped boost returns on the $2.5bn investment portfolio.
All of this means Lancashire is launching a $50m share buyback and – even better – paying a $0.50 (41p) special dividend on Dec 15. This is the first special dividend since 2018 and will take our total dividend haul to 64p, with a final payment for 2023 to come.
Management also continues to lay the groundwork for the next leg in the FTSE 250 company’s long-term growth story with the planned launch next year of Lancashire Insurance US. The stock is still cheap and dividends are now really flowing. Hold.
Questor says: hold
Ticker: LRE
Share price at close: 677.5p
Russ Mould is investment director at AJ Bell, the stockbroker
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