Real Estate Research
When will Central London offices rent peak?
Central London offices have recently been the star performer of the UK commercial real estate market. Total returns on City and West End offices averaged 14.2% per annum and 16.1% per annum respectively over the five years to June 2015 (source: MSCI), well above the all property average of 10.1% per annum. While part of this outperformance was due to a relatively favourable fall in yields, this re-rating was supported by a big upswing in rents, reflecting both strong employment growth and low levels of new office building. Average grade office rents in the City and Mayfair have risen by 50–60% from their trough in early 2010 (source: Co-Star /PPR) and certain areas such as Shoreditch and the South Bank have seen even faster growth, as they have graduated from fringe locations into integral parts of the Central London market. Given that property yields appear unlikely to fall much further, assuming that interest rates start rising in 2016, the key question now for investors is when will Central London office rents peak?
That Central London office rents are now above their previous peak may leave some investors feeling queasy, but the 2008 peak is an arbitrary level rather than an important milestone (see Chart 1). Looking forward, what really matters are the future demand and supply forces shaping the occupier market. On the demand side, Oxford Economics forecasts that office employment (defined as administrative services, financial services, IT and communication, professional services, public administration and real estate) in Central and Inner London will increase by 12%, or 200,000 people, between 2014 and 2019 (see Chart 2). Encouragingly, this expansion should be based on a range of diverse sectors, as London continues to develop as an international hub for IT, media and professional services (e.g. accountancy, architecture, law and scientific research). By contrast, employment in financial services is likely to be flat and cuts in government spending mean that jobs in public administration are expected to decline.