Strong industrial growth masks weakness

Commercial property returns                                 

• Investment research firm MSCI reports that, on average, commercial property values rose by 0.7% in March, a growth rate that would normally signal a market in robust health. However, exceptionally strong value growth in the industrial sector is masking weakness elsewhere.
• Industrial values have risen by 4.1% in the first three months of the year, and by 8.7% in the 12 months since the full impact of the pandemic was first felt in the UK. Growth has been strongest in London, but has also been robustly positive in every other region.
• Average retail values continued to fall in March, even though tentative signs of recovery in the retail warehouse sector have reduced the rate of decline in recent months. In contrast, shopping centre values continue to fall sharply, and are down by 7.1% already this year, following on from a 25% decline in 2020.
• Office values have been drifting downwards, with most regions seeing a decline in Q1. The outlier has been eastern England (+1%), which seems to be almost entirely driven by investor demand for science parks around Cambridge. In contrast, values in the Midlands and Wales are down by 3.5% so far this year, and by 9.1% in 12 months.

Investment market activity

• £4.2bn of investment deals transacted in March, the strongest month so far this year, and broadly in line with last March, in the run-up to the first lockdown. Across the first quarter as whole, £10.8bn was transacted – just 7% down on the same period last year.
• The numbers for the first quarter have been bolstered by a very active industrial market, with transactions running at almost twice the level of Q1 last year. In March, Blackstone acquired a 1.6m square-foot portfolio from InfraRed for £187m, and Bedfont Logistics Park from BlackRock for £119m, both for its Mileway logistics platform.
• The London office market has been relatively quiet, but remains in demand from overseas investors. A Hong Kong consortium led by Wing Tai acquired Deloitte’s City office for £255m (4.1%). Henderson Park acquired the asset for £100m in 2018 after Deloitte vacated, before refurbishing it and re-letting it to them on a new 15-year lease.
• Following on from three significant transactions in the student sector in February, a Qatari investor acquired a portfolio of eight assets from the Unite Group for £133m. The price tag represents a yield of 6.5% from 2,284 beds in Birmingham, Wolverhampton, Exeter and Manchester.
• With transactions totalling almost £700m, the retail sector had what passed for a reasonably active month by recent standards. However, after three trades on Bond Street and Piccadilly for a combined £208m, and £213m spent on supermarkets, there were slim pickings elsewhere. The largest of those deals was a portfolio of long income retail warehouses, sold by LondonMetric for £41m. 

Market yields

• Real estate consultancy Knight Frank reports that sentiment for high street retail and shopping centres remains firmly negative, with the sole exception of Bond Street, seen to be stable at around 2.75% following two significant transactions in March. However, just around the corner, Oxford Street yields have moved out by 75 basis points (bp) in 14 months and are expected to soften further.
• In contrast, the retail warehouse sector has seen something of sea change in sentiment, with Knight Frank reporting that multiple benchmarks moved in over the last month. Yields for prime solus units (with 15-year income) have hardened by 25bp, as have secondary parks, with the latter perhaps influenced by perceived alternative-use values.
• Investors have increasingly been drawn to supermarkets, which have seen sales boosted during the pandemic. Yields for assets with RPI leases hardened by a further 25bp in the month to 3.75%; in from 4.5% at the start of the pandemic. Yields for stores with open-market reviews are in by 25bp in the last year and are expected to harden further.
• Sentiment on the economy has improved materially, yet the scope for yield compression has been reduced by a significant rise in market interest rates. In six months, the benchmark 10-year gilt yield has moved out from less than 0.2% to around 0.8%. Five-year swaps are up from 0.18% to 0.68% over the same period.   

Auctions

• Auction rooms have turned out to be a rare source of liquidity for shopping centres in recent months, typically run alongside a private treaty sale process to access the widest possible pool of investors. These sales are setting new benchmarks for pricing that are finally giving valuers some comparables with which to work.
• The Loreburne shopping centre in Dumfries was sold to a Manchester developer for around £3m at the Allsop auction in March. Allsop’s May book lists a further three centres, in Kidderminster, Huddersfield and Widnes, all with guide prices of less than £3m and indicative yields above 25%.                      

Market forecasts

• The latest IPF Consensus Forecast, compiled between December and February, showed a marginal improvement in expectations for 2021, but this was balanced by a reduction in the growth forecast for 2022.
• The average forecast from 24 contributors was for capital values to decline by 2.5% this year, followed by growth of 1.8% in 2022. The decline this year is expected to be driven predominantly by retail subsectors, but the consensus was also that office values would fall this year, by 3.1%. In contrast, industrial values are expected to rise by 4.3%.
• Within retail, shopping centres are once again expected to underperform, with an average predicted decline of 13.1%. High street shops are not expected to fare much better, with a consensus forecast decline of 10.9%. Retail warehouses are forecasted to record a slightly milder 7.2% decline.
• Healthy growth is anticipated for the office and industrial sectors in 2022/23, supported by improving rental growth. In contrast, shopping centre values are expected to fall by a further 5%. Retail warehouses are anticipated to bottom out in 2022 and return to growth in 2023.