DTZ research shows that Industrial sectors in regional markets among best investment opportunities

Greg Davison, Director for DTZ in Leeds

The UK’s regional industrial and retail markets are the most attractive for prime commercial property investment according to DTZ’s Fair Value Index.

The UK Fair Value Index identifies the most attractive office, retail and industrial markets for prime commercial property investment now on a five year hold period. The list pinpoints those cities with the most attractive pricing for investors looking to enter the market now. The report shows that the most underpriced markets are to be found in regions outside of London, while most London markets are now fairly priced due to lower yields than those in the regions.

Of the most underpriced markets in the UK currently, three out of five are in the industrial sector with Cardiff topping the list for prime investment potential.

DTZ UK Fair Value Index™, Q1 2015: Number of markets in each category by region Source: DTZ ResearchJames Bladon, Associate Director in DTZ’s Midlands Investment team, comments: “The investment markets in the East Midlands have followed the national trend with considerable investor demand resulting in rising prices. Nevertheless, with interest rates remaining low and healthy rental growth (2%+ per annum) arising from improving occupational markets, projected returns are expected to exceed the returns that investors should require over a 5-year horizon. DTZ assess that the retail and office sectors in Nottingham remain ‘fairly priced’, while the industrial sector is ‘under-priced’, with a clear margin between expected returns and the required return.”

Overall DTZ’s Fair Value Index™ for the UK fell to 58 in Q1 2015 from the previous quarter’s figure of 72, meaning that UK property has become less attractive to investors. According to DTZ’s research, keener pricing of property markets this quarter as a result of significant yield compression has reduced the UK Fair Value Index™ score. Since gilt yields are at very low levels, UK property still looks attractive on a relative basis due to favourable yield spreads. However the strong weight of capital targeting property means the market is now becoming more fully priced.

Fergus Hicks, DTZ’s Global Head of Forecasting, said: “Our latest UK Fair Value Index™ shows that UK property’s attractiveness to investors is starting to diminish as many of the major markets have now become fairly priced due to significant yield compression, particularly in the office sector. We believe that, going forward, UK property’s attractiveness will continue to diminish throughout the rest of this year so investors need to be much more selective about targeting better value opportunities.”

The industrial sector is currently the most attractively priced sector in the UK, with three of the top five most underpriced markets in DTZ’s UK Fair Value Index™ all in this sector. Higher income yields than the office and retail sectors make it particularly attractive to investors, given the wider spread over government bond yields.

Over the next five years regional markets are expected to offer the most favourable risk-adjusted returns, while the majority of London markets are now fairly priced after seeing significant yield compression over the last few years.

Ben Clarke, DTZ’s Head of UK Research, says: “Greater confidence on the part of developers means we have seen the return of speculative development in the office and industrial markets in the UK regions. Nevertheless, many of these markets remain supply constrained at the prime end of the market. This is supporting rental growth in these markets where yields remain well above what can be found in central London.”

With prime yields now at cyclical lows, a few office markets are now looking more fully priced, such as London’s West End and some regional markets such as Bristol and Leeds, where yields have fallen by 50 and 80 bps respectively over the last year. Nevertheless, most office markets still remain fairly priced, while regional industrial and retail markets offer the best value and are all under- or fairly priced.

The findings are based on the DTZ UK Fair Value Index™, which provides a quarterly insight into the comparative attractiveness of current property pricing across 32 UK markets. The classification for each market, based on a five year hold period, is determined by comparing the forecast return and the risk-adjusted fair/required return. A score of 100 indicates that all markets are underpriced and zero that all markets are overpriced. A score of 50 indicates a balanced number of over-and underpriced markets. In Q1 16 markets were rated as underpriced, 14 fairly priced and only two as overpriced.