Overall Market Review

Residential property values are driven by supply and demand and can be distorted significantly by local economic factors. This has been most noticeable over the last year in the prime London market where ultra-high value properties have adopted many of the characteristics of precious metal investment. Shortage of supply, exacerbated by planning restrictions, geopolitical stability, the attractiveness of the time zone and London's standing as a high quality urban environment have pushed prices of these properties to unprecedented levels. To a lesser extent, prices in other London and South East areas have also reflected the imbalance between supply and demand by exhibiting stronger price levels than other parts of the UK, which are much more susceptible to the weak economy and to the effects of the mortgage market. Some 62% of our UK properties are situated in London and the South East and so benefit from these factors.

As well as geographical imbalances we find, that in these markets, certain types of property sell better. Generally, our properties are of low average value and tend to be un-refurbished on vacancy. Demand for these properties from a mixed constituency of cash buyers, amateur and professional developers and local specialist landlords as well as the usual mortgage backed owner-occupier, remains strong. This is reflected by the fact that our average sales period runs at approximately 112 days and our vacant sales were completed for values on average 3.7% above the equivalent September 2010 valuation. Refurbishment works prior to sale can improve returns and when these are taken into account we have sold at 6.7% above September 2010 valuations.

Mortgage funding for house purchases remain at very low levels reflecting primarily the higher levels of deposit required by lenders - the average first time buyer deposit stands at 21% of purchase price. This, allied to weak confidence in the economic outlook, has led to a significant increase in the number of household properties being rented. In London it is estimated that the percentage level of home ownership has fallen from 60% in 2001 to 52% in 2010. The increase in demand has also pushed rentals up with prime London residential rents showing annual increases of up to 10% on new lettings.

Government has indicated support for a stronger more professional private rented sector. There is an increased possibility of residential REIT's being created once legislative changes are enacted in 2012. The Government's Housing Strategy, announced on 21 November 2011, clearly states the Government's desire to support the private rented sector and announced the creation of an independent review to explore ways to attract institutional investment into the sector.

We believe the switch between home ownership and rented occupation signals a significant and permanent structural change in the housing market. We anticipate demand for rental properties, particularly in major metropolitan areas, to increase and there to be more blurring of the edges between the affordable/public/private rented sectors.

We are well placed to take advantage of these changes through our expertise as a major residential landlord and by positioning ourselves in the market rented sector through our involvement with G:res and the Bouygues and Grainger Build-to-Let fund. The fund was recognised by the UK Government in its Housing Strategy as an exemplar of private sector initiatives.

The German residential market shows different characteristics from the UK. Overall levels of home ownership are much lower at approximately 42%, the second lowest in Europe. The size of the rental market has led to a diverse range of rental housing and vacancy rates are relatively constant at below 4%. These factors have led to a more investment based market, with some 40% of rental units being owned by professional/commercial landlords. As with the UK, geographical differences are evident and both residential prices and rental demand are strongest in the larger economically successful cities, particularly in the West. It is in these areas that our German portfolio is located and these attractive locations together with a good quality portfolio bode well for future rental growth and capital appreciation.

Future prospects

The prospects for the UK economy and therein the broad housing market is uncertain. Wider global economic conditions will play an important, if not the most important, part in the health of the UK economy in the short to medium term. This uncertainty will result in subdued behaviour both among businesses and consumers. We therefore take a cautious view of the prospects for general house price growth in the short to medium term, but believe this can be offset by the severe undersupply of housing compared to growing demand in local markets. The imbalance between supply and demand will vary significantly from area to area with an impact on pricing.

Our future focus will be to build on our three main income streams in a risk controlled way - property sales primarily of assets to capture their reversionary value, rental income and fees or other income from managed or co-invested vehicles. Our existing portfolio provides us with a ready source of liquid assets that sell well and quickly. The portfolio also provides opportunities for rental appreciation and we continue to increase our fee income through the application of our residential property expertise.

We are disposing of assets that are either regarded as non-core or where we see limited opportunities for growth. When taken in conjunction with our normal sales on vacancy, we anticipate being net sellers of property in the short to medium term. We believe that operating at lower levels of debt, in conjunction with a greater emphasis on fee generating activities, will generate a better risk adjusted return to our shareholders. Our property management activities may result in increased assets under management.

We are well positioned to take advantage of the opportunities presented by the changes in the residential market. A large proportion of our portfolio is in geographic areas where economic activity, and therefore demand, is highest enabling us to maximise sales value and velocity. Our expertise as residential landlords will enable us to take full advantage of the increasing rental market and, in particular, the Build-to-Let sector. We are optimistic about our opportunities to improve return on capital by managing other parties' residential real estate exposure.

In summary, we remain confident in our ability to deliver good levels of long term return in the residential property sector for our shareholders.