Momentum slows for London’s commercial property market despite record H1 investment levels

BNP Paribas Real Estate’s initial H1 2022 data has revealed that Central London’s commercial property market has softened during Q2, despite the period marking the busiest half-year on record.

Against the backdrop of pressures including GDP growth slowing from 0.7% in Q1 to 0.4% in the three months to May, and the Consumer Prices Index (CPI) 12-month inflation rate reaching 9.1% the same month, the following successes were reported across the market:

  • Total H1 Central London investment total stands at £10.3bn, the busiest half-year on record, surpassing the previous high of £10.2bn set in 2017
  • The Central London office market reported £8.2bn of investment transactions over H1, the highest half-year total since 2007. However, the volume of transactions has been relatively low, despite high turnover.
  • Activity from cross-border investors remains strong. This is particularly true of Asia-Pacific buyers, recording a 249% growth in acquisition volume in H1 and accounting for c. 40% of overall Central London office investment activity so far this year
  • Central London office occupier demand saw the strongest Q2 since 2015 with take-up reaching 3.49m sq ft
  • Prime office rents have risen in Q2 in Mayfair & St James (+8.33%), Soho (+5.55%), Oxford Street (+5.55%), and Paddington (+14.28%) and have maintained across City, Victoria, and Midtown [see editor’s notes for breakdown]
  • Residential price forecasts have tightened for Prime Central London, however growth of up to 5% is still expected

However, the quarterly results to date have been impacted by market conditions, with the following caveats reported:

  • Central London investment reached c. £4.5bn in Q2 – 8% down y/y. The number of office deals transacting was less than half the 10-year pre-pandemic average, pushing the average lot size to record levels.
  • Activity in the Central London office market was dominated by Q1, accounting for nearly two-thirds of investment (£5.3bn), compared with £2.9bn during Q2.
  • With investors having to absorb substantially higher debt and construction costs, pricing has inevitably started to adjust and sellers of big-ticket assets are having to either accept price adjustments or pause disposals. As a result, BNP Paribas Real Estate’s prime City office yield has moved out from 3.75% to 4.00%, with pressure to move this out further.
  • The occupier market remains robust for best in class product, however Central London vacancy stands at 8.9%, up on the long term average (6.4%) and 0.3pp above the 8.6% recorded at this time last year.

Looking at total UK transaction volumes, investment levels to the end of June stand at £30m which is on par with H1 2021. Q2 specifically accounted for £12.1bn, a 32% decrease on Q2 2021.

Etienne Prongue, CEO, BNP Paribas Real Estate UK, said “The speed of the interest rate hike has caught the real estate market by surprise. As it stands, rising debt costs and the deteriorating economic outlook are impacting pricing discussions, causing some sellers to pause disposals and wait for improved sentiment. Yields are also beginning to soften in light of the challenging financial conditions, particularly for assets lacking in ESG credentials, or are noncompliant against shifting legislation. The market is now pausing for an adjustment in pricing – when it does, there is still plenty of equity ready to deploy. What remains unclear is how the leasing market will adjust in response to changing market conditions over the next 18-months.”

Vanessa Hale, Head of Research and Insights at BNP Paribas Real Estate commented: “As geopolitical tensions remain high and inflation continues to rise, the economic outlook remains challenged. Consumer confidence has fallen significantly in recent months as concerns around personal finances are exacerbated, meanwhile, businesses and investors are having to absorb rapidly rising finance costs, therefore applying pressure to the real estate market.”