INVESTORS have been warned they could be piling into commercial property just as the smart money is pulling out.

Commercial-property funds, which invest in shops, offices and industrial premises, have been one of the hottest investments in recent months, thanks to stellar returns last year: 18.3% in 2004 compared with 12.8% for equities and 6.6% for gilts, according to the Investment Property Databank (IPD).

Some institutions are selling up, however, which may indicate that the market has peaked. Abbey will confirm this week that it has sold its £1.2 billion portfolio of commercial property to ING, the Dutch bank. It intends to reinvest the bulk of the proceeds in equities.

John Kelly, head of investments at Abbey, said: “Commercial property has been rising for 12 years and has delivered returns of more than 10% in the past two, but it now looks fully valued. Prices have been inflated by a wall of money from investors seeking alternative investments, but this is not sustainable. A new supply of property will soon come on stream to meet demand and we could have a glut, as we saw in the buy-to-let market.”

There are fears that institutions could palm off unwanted properties to unsuspecting investors through commercial-property funds.

When Scottish Widows Investment Partnership (SWIP), the fund manager owned by Lloyds TSB, launched the Property Trust for private investors last November, 70 properties worth £630m were transferred into the new fund from Abbey Life, a closed life fund that is also owned by Lloyds TSB.

Similarly, when Britannic Asset Management launched a property fund for individual investors last year, 38 properties worth £290m were transferred from Alba Life, a closed life fund owned by Britannic.

Kelly draws parallels with the tech boom. He said: “Most tech funds were not launched in 1994, when the market was taking off, but at the peak in 1999. I fear institutions may again be exploiting the peaks and troughs of the market to sell property from their portfolios to retail investors at high prices.”

Graham Neale, a director at Killik & Co, the stockbroker, thinks existing investors should take profits. He said: “We’ve seen the smart money move away from commercial property to cash in on inflated asset prices. We are advising clients to take some profits from their business-property holdings, although they should not sell out completely.”

SWIP and Britannic defended their moves, however. SWIP said: “Abbey Life is a closed life fund that is being wound down and will therefore need to sell assets over time. The requirement for commercial property was also reduced, based on the outlook for the sector. The most effective way of selling the property over time was swapping the assets for units in the fund, some of which have been bought by retail investors.”

Britannic said that Alba Life was also a closed fund that swapped its property for units in the new fund. It said: “Alba in no way offloaded poor- quality properties. On the contrary, Alba remains a major shareholder in the Britannic fund and gains most of its property exposure that way.”

Investors should prepare themselves for lower returns in future. The Investment Property Forum said in May that the consensus among analysts was for total returns — capital growth plus rental yields — to drop from 18.3% in 2004 to 15.9% this year and just 6.8% in 2006, well below the 24-year average of 10.6%.

Milan Khatri, chief economist at the Royal Institution of Chartered Surveyors, is more bearish, predicting returns of 13.4% this year and 6.6% in 2006. He said: “Returns will drop back in the years ahead as rises in capital values slow. Rental growth is unlikely to take up the slack because the slowdown in consumer spending will put pressure on tenants in the retail and industrial sectors.”