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Investing in commercial property: a tale of three markets

Britain’s commercial property sector has traditionally been divided into three subsectors: industrial, offices and retail. In the 1980s and 1990s, retail outperformed while industrial properties struggled as consumer spending rose inexorably but the country deindustrialised. In the last ten years retail has lagged as household spending migrated online; industrial property, however, has outperformed thanks to the growth in logistics warehouses, notably to service online shoppers. But in recent years some of the best growth has come from three smaller subsectors: student housing, healthcare and self-storage – or beds, meds and sheds. Investors can gain access to each of these subsectors through real-estate investment trusts. Are they still worth a look?

The university boom

Student numbers reached 2.3 million in 2018; 75% are undergraduates and 80% are British. Despite the introduction of full tuition fees in 2012, more than half of school leavers go on to higher education. The annual number of applicants through the Universities and Colleges Admissions Service (UCAS) has doubled to 533,0000 in 25 years. Students used to live in college-owned halls of residence or in the private rental market. But demand outstripped both the willingness of the former to provide the necessary capital and the capacity of the latter.

Unite Group (LSE: UTG) was founded in 1991, initially to provide purpose-built student accommodation in the Bristol area. It now provides 75,000 beds across the country. Unite forms partnerships with universities to ensure high occupation: 92% of beds are reserved for 2019/2020 and 60% are guaranteed by universities. Occupancy of 98%-99% has consistently been achieved and rental growth is in the range of 3%-4% per annum. At mid-year the group’s assets stood at £3.2bn, of which £1bn was financed by borrowings, although the £1.4bn recent acquisition of Liberty Living will have increased gearing to around 35%.

The shares, at 1,240p, trade at a 47% premium to net asset value (NAV), are valued at over 30 times earnings and yield just 2.6% but Unite says that the acquisition is “materially accretive to earnings”, while it is “confident of 3%-3.5% medium-term rental growth”. But even if the 12% growth in interim earnings and 8% growth in the dividend continues, it will take several years for the shares to look good value, despite the low-risk business model.

A turnaround story

Empiric Student Property (LSE: ESP) with 8,882 beds and £1bn of assets, seems much better value at 98p. It is on a 10% discount to NAV and yields 5%, but it is recovering from operational problems in 2017 that prompted a dividend cut. It focuses on smaller, higher-quality and more expensive buildings to appeal to graduates (46% of tenants) and overseas students (67%). GCP Student Living (LSE: DIGS), with £960m of assets, is of a similar size, but has less debt and an unblemished record. It trades on a 14% premium to NAV and yields 3.2%. It has 4,116 beds in 11 locations, but just 23% of its tenants are from the UK. As with Empiric, this may be an advantage as growth in international student numbers looks assured.

The rise of the health centre

The merger of Primary Health Properties (LSE: PHP) with MedicX leaves just two companies specialising in health centres: PHP, with £2.3bn of assets and Assura (LSE: AGR), with £2bn. Both trade on large premiums to NAV (38% and 50% respectively). But the attraction is dividend yields of 3.7% and 3.5% that are not only very safe, but also all but guaranteed to be at least inflation-indexed.

Both groups own purpose-built health centres, at least 90% of whose income comes directly or indirectly from the NHS on long-term leases, with the rest coming from pharmacies. Following the acquisition of MedicX, PHP now owns 488 of these, which are 99.5% occupied, while Assura has 560.

These health centres have replaced many of the old, small GP surgeries, but house many more doctors together with modern equipment, clinics, diagnostic testing, pharmacies and even day-surgery centres. Rental agreements provide for modest annual increases, but there is the potential for more if a property is modified or extended. Expansion comes from buying recently built premises or through funding a developer and then buying on completion, thereby avoiding risks connected with construction.

With only 20% of the PHP portfolio having a lease expiry of less than ten years, there is little opportunity or wish to trade the assets; the value of the shares lies in the rental stream. This makes them comparable to infrastructure funds, except that ownership of the assets is permanent. Strong performance in 2019 means that the shares of both are no longer great value, but they represent sound investments for those seeking secure, growing income.

The “meds” theme also covers two smaller companies that own residential care homes, Impact Healthcare (LSE: IHR) and Target Healthcare (LSE: THRL). Target, with £600m of property assets and £100m of net debt, operates 69 purpose-built care homes. Impact, with £311m of property assets and some £10m of net cash, owns 84 care homes and two healthcare facilities leased to the NHS. In both cases, the care homes are leased to high-quality operators for the long term, with built-in rental increases. Both shares seem attractive, with Target trading on a 7% premium to NAV and yielding 5.8%, while Impact trades on a 2% premium and yields 5.7%.

Note, however, that the number of care beds in the UK has fallen some 20% since its peak of around 550,000 in 1997. The NHS and local authorities have not been prepared to increase payments to operators by enough to cover escalating costs. In 2011 Southern Cross got into trouble amid an 8% drop in occupancy, the result of fewer referrals due to public-spending cuts. It could not pay its escalating rent bill and became insolvent. Well-run care homes are the most cost-effective way of caring for the elderly, but governments have repeatedly pursued the false economy of squeezing the private operators, who account for nearly all capacity. If this keeps happening, Target and Impact could find their rental income under pressure from struggling operators.

Businesses need more storage space

The self-storage market conjures up images of warehouses crammed with personal possessions. That, however, probably only accounts for a small part of the UK’s 20 million square feet of lettable area, with rates varying from £16 per square foot (sq ft)in Scotland to £28 in London. Personal storage is an important part of the market, but the business market is key. For small businesses, storing goods, records and stock at a self-storage unit or lock-up garage is likely to prove much cheaper than doing so at an office or in a shop, particularly with the increasing number of online entrepreneurs operating from home.

Hence the success of the two listed specialists, Safestore (LSE: SAFE) and Big Yellow (LSE: BYG), trading at premiums of 52% and 75% to NAV and yielding 2.2% and 2.8% respectively. Safestore, with 149 stores (including 22 in the Paris region) has 6.5 million sq ft of lettable area valued at £1.4bn and Big Yellow, with 75 stores, has 4.6 million sq ft valued at £1.5bn.

Big Yellow’s recent interim results revealed revenue and profit growth of 3.4% and 6% respectively, thanks to a small increase in like-for-like occupancy and a 1.9% increase in rent per sq ft. Lettable area increased only 0.7%, although there are 13 development sites, of which six have planning permission. Big Yellow also owns 20% of Armadillo, with 25 stores, which it presumably hopes to buy the rest of. That would give it 6.6 million sq ft in all.

Safestore’s recent final results showed a 5.6% increase in revenue and a rise in earnings per share of 6.3%, thanks to increases of 3.5% in average occupancy and a 1% in average rates. It plans four new stores in 2019/2020, but insists that its “top priority remains the growth opportunity of the 1.5 million sq ft of currently unlet space”. Big Yellow’s occupancy of 83.4% is higher, despite its larger stores, giving less unlet potential and its net rent per sq ft of £27.73 is 6% higher than Safestore’s, despite the latter’s focus on London and the southeast (70 stores). Both shares trade on 27 to 28 times underlying earnings, so they look expensive despite the solid record and prospects.

ASR strategist Zahra Ward-Murphy acknowledges that “the beds, meds and sheds theme is not new and these sectors have been outperforming for some time. Nonetheless, we like these sectors because they are underpinned by secular demand drivers and therefore should prove relatively resilient to any further slowdown in growth”. Business risks look low and dividend yields are reasonable in relation to low interest rates and bond yields, while dividends should climb steadily.

However, with the exception of the recovery story of Empiric and the historically risky care-home owners, valuations are high and vulnerable to market setbacks, so investors should wait for the next general sell-off before eyeing them up.

By Max King

Source: Money Week

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‘Outstanding’ final quarter for north’s commercial property market

A SPRINT finish final quarter saw commercial property investment volume in Northern Ireland complete at £215.1 million last year – 19 per cent above 2018 though 4 per cent below the ten-year average, according to new research from Lambert Smith Hampton.

Its Investment Transactions bulletin showed that despite an outstanding final quarter with volume of almost £91m, the uncertain local and national political climate continued to weigh on volume with 2019 annual volume the second lowest since 2013.

Retail retained its place as the dominant asset class in Northern Ireland, with £92.5m of transactions accounting for 43 per cent of volume in the year due to two large fourth quarter retail park transactions. Throughout the first three quarters of the year, the highest proportion of volume had been in the office sector with Belfast city centre office investments remaining the most in demand asset class.

Despite a challenging retail market, three retail parks transacted in the latter half of 2019. In the largest deal, Sprucefield retail park in Lisburn was bought by New River Retail for £40m (yield 8.71 per cent), Crescent Link retail park in Derry was purchased by David Samuel Properties for £30m (11.50 per cent yield) and Clandeboye retail park by Harry Corry Pension Fund for £8.7m (13.50 per cent yield).

Office transactions this year totalled £74.1m, the highest volume in the office sector on record, boosted by Citibank’s purchase of their Belfast headquarters, the Gateway Office in the Titanic Quarter, for £34m (5.48 per cent yield). Other notable office transactions included a local government department’s £16.0m purchase of James House at the Gasworks and Vanrath Recruitment’s £12.5m purchase of Victoria House.

2019 saw a number of office assets purchased by owner occupiers for a combined total of £62.8m, including the aforementioned Gateway Office, James House and Victoria House.

As usual, local investors were the most active investor type. By comparison to 2018, activity from this group was subdued with the number of transactions down 38 per cent and volume down 23 per cent. There were a number of higher value assets purchased by private investors including Antrim Business Park for £12.5m (14.5 per cent yield) and Timber Quay in Derry for £5.3m (11.5 per cent).

At £26.2m industrial volume was at its highest for the decade in 2019, with both propcos and private investors purchasing in this sector. In Armagh, 35 Moy Road was purchased by David Samuel Properties for £6.3m (7.28 per cent yield) and CD Group, Mallusk by Alterity Investments for £2.6m (7.23 per cent).

Martin McCloy, director of capital markets, Lambert Smith Hampton, said: “Q4 provided a strong finish to what was a difficult year for the investment market. The extension of the Brexit deadline, the lack of a Stormont executive and the prolonged uncertainty delayed investment decisions in 2019.

“Yet demand remained constant with potential investors in Northern Ireland particularly seeking secure long-term income or high quality office investments.

“While retail was again the dominant asset class by volume, this was as a result of a small number of large transactions rather than a signal of renewed attractiveness in what is still a challenging sector. Core assets remain attractive but pricing is key.”

He added: “It is anticipated that the ending of local political uncertainty and increased clarity on the Brexit process will boost investor confidence, translating into a substantial release of pent-up demand and a busier 2020.”

By Martin McCloy

Source: Irish News

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Edinburgh rebound boosts Scottish commercial property sales to £1.2bn

A Scottish Property Federation (SPF) analysis of the latest commercial property sales figures has shown a rebound in the total value of sales in Scotland in Q3 (July to September) 2019.

In total, £1.2 billion was transacted in the quarter, nearly double the total value of commercial property sales in Q2 (April to June) 2019.

Edinburgh was a key driver of the increase in the value of commercial property sales, with sales in the capital more than tripling to £462 million in Q3 2019 when compared to the previous quarter. Partly as a result of several high-value transactions, Edinburgh dominated the commercial property market in Q3 2019, with a 38% share of the Scottish market by value.

Glasgow also continued the positive momentum with £216m transacted in the city during Q3 2019. Its total value increased by £44m on Q2 2019 and £63m against the same period in 2018.

Commercial property sales in Aberdeen remained steady at £32m. Aberdeen’s total value of sales rose slightly on Q2 2019 (by £2m) but remained £20m below values recorded in the same quarter last year.

Responding to the latest sales figures, David Melhuish, director of the Scottish Property Federation, said: “Q3 2019 was a strong quarter for commercial property sales; however, it comes on the back of a subdued first half of 2019, and the current one-year rolling total is still 3% lower than in the same period in 2018.

“We will be watching closely to see if this momentum can continue in the last quarter of the year, against the headwinds of continued political uncertainty and low economic growth.”

Cameron Stott, director at commercial property agency JLL, added: “The large volume by value has been driven by substantial asset sales which have offered investors either long secure income or the asset is in a prime location.

“This volume also reflects how attractive Edinburgh continues to be notwithstanding the political uncertainty.

“It is also interesting to note the continued interest from foreign investors no doubt seeing the UK as value for money but also benefiting from a more attractive yield compared to many other European cities.”

Scottish commercial property investment volumes also rose sharply on both a quarterly and an annual basis, according to property data experts CoStar UK. Investors spent £798m in Q3 2019, the highest quarterly amount since Q1 2018.

CoStar also highlighted that Scotland attracted more investment than any other UK region outside of London and the South East, with volumes heavily supported by a continuing flow of capital from overseas. It was reported that foreign investors were behind over half of all acquisitions by value, with European and American investors involved in sizeable purchases.

Source: Scottish Construction Now

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RICS: Surveyors sense a downturn of commercial property market

The Brexit impasse is contributing to perceptions that the commercial property market is in the downturn phase of the property cycle, the RICS UK Commercial Property Market Survey has revealed.

Figures for Q3 2019 showed that 62% of surveyors sensed the overall market is in a downturn phase of the property cycle.

Brexit was suggested as having an increasingly detrimental impact on market activity.

Tarrant Parsons, economist at RICS, said: “Although a clear majority of respondents now perceive the market to be in a downturn, the fact that capital value expectations are still positive in many parts of the country suggests a relatively soft landing for the commercial real estate sector is anticipated overall.

“It remains to be seen what impact the latest Brexit developments have on confidence across the sector, but with the picture unlikely to become clear until into the New Year it may well mean hesitation continues over the near term.”

Tenant demand reportedly fell at the headline level with the net balance slipping to -19%.

Interest in the commercial property market fell at a faster pace last quarter with -15% more surveyors seeing a fall in investment enquiries.

By Michael Lloyd

Source: Mortgage Introducer

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Demand for commercial property at lowest level since 2012, says industry report

Demand for office space in the South West has slipped to its lowest reading since September 2012, the Royal Institute of Chartered Surveyors’ UK Commercial Market Survey has revealed.

The survey added that the current impasse over Brexit is contributing to perceptions that the South West commercial property market is in the downturn phase of the property cycle.

The RICS report for Q3 2019 said that enquiries from investors are down at headline level and that 53 per cent of respondents believe that the market to be on a downward trajectory.

Occupier demand in the South West fell at the headline level once again, with the net balance slipping to -19 per cent, the lowest reading since June 2012.

Once again, the retail sector continues to drive the overall decline (net balance -62 per cent, compared to -54% in Q2).

However, demand for South West office space also fell during Q3, with a net balance of -8 per cent compared to -1 per cent in Q2.

Demand for industrial space has a net balance in the region of +12 per cent.

The region’s retail sector continues to have large numbers of vacancies coming to market, prompting another increase in incentive packages on offer to prospective tenants.

Inducements are also on offer in the office sector with 17 per cent of respondents reporting a rise in the packages.

South West respondents to the survey project that rents for the coming three months are expected to rise in the industrial sector, the only sector to see any notable interest from tenants.

Unsurprisingly, the retail sector isn’t expected to improve, some 63 per cent of respondents in the region expect to see further reductions in rents across the market.

Across the UK, retail rents are reading at the lowest level since the financial crisis (Q1 2009).

Looking further ahead, local respondents expect prime and secondary retail rents to fall for the year ahead.

The outlook has turned negative for secondary office rents in the South West, driven by weakening expectations in London.

By way of contrast, the industrial sector continues to return rental growth projections for the coming 12 months in the region.

Interest in investing in the local commercial property market fell again this quarter, with -5 per cent more South West respondents seeing a fall in investment enquiries.

Overseas investment demand also declined across the sectors with a net balance of -9 per cent of respondents seeing a fall.

Tarrant Parsons, RICS Economist, said: “Although a clear majority of respondents now perceive the market to be in a downturn, the fact that capital value expectations are still positive in many parts of the country suggests a relatively soft landing for the commercial real estate sector is anticipated overall.

“That said, the fallout for retail is altogether more severe. It remains to be seen what impact the latest Brexit developments have on confidence across the sector, but with the picture unlikely to become clear until into the New Year it may well mean hesitation continues over the near term.”

Martin Smalley of Gleeds in Bristol added: “Brexit unsurprisingly has created an atmosphere of uncertainty in the regions.

“There are however hotspots around areas of significant infrastructure investment like Hinckley Point C which is fuelling growth across the commercial, retail, industrial and residential sectors.”

By James Young

Source: Punchline Gloucester

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An alternative future for commercial property

DIVERSIFICATION throughout commercial property portfolios, by private and institutional investors, is a long-standing tactic but has tended to centre around a select number of core commercial real estate classes.

That has changed in the post 2008 environment, as the industry has seen a growing appetite from investors in ‘alternative commercial property assets’ and the rise in levels of investment in these asset classes across the UK and Ireland is starting to be felt north of the border here in NI.

Figures announced for the UK mainland at the start of this year show that in the first quarter of 2019 investment in these alternative real estate assets, such as hotels, private residential, student accommodation and care homes, reached a record 42 per cent share of the overall UK investment market for the quarter. Analysts report that this has been the highest share on record following 29 per cent and 35 per cent growth in this sector in quarters three and four 2018.

The proportion of Northern Irish investment transactions that fall into the alternative category doesn’t presently come close to this level, but there is no doubt that alternative property assets are increasingly piquing the interest of those investing in the province.

The proliferation of hotel investments in Belfast city centre across the past 24 months is well documented, in parallel with heightened investor interest in student accommodation as the Ulster University campus takes shape on Royal Avenue.

Unfortunately, the unexpected delay of construction at the university campus served to cool the later for a time, but several significant student accommodation schemes are now nearing completion with others coming online as the construction of this vibrant new part of Belfast city centre proceeds.

Other ‘alternatives’ including build-to-rent schemes that facilitate city centre living as well as alternative uses of traditional retail spaces that incorporate leisure facilities, entertainment and community alongside healthcare provision are becoming increasingly attractive to investors in the province as the The Belfast Agenda strives to make Northern Ireland’s capital home to an additional 66,000 people by 2035.

Residential letting schemes in Belfast with concierge services, gyms and residents’ lounges may be a novelty today but based on the wider UK and Irish markets the time when these represent a solid investment, even for the risk-averse institutional investor, might not be too far away.

Markets are changing, as are attitudes, incomes and the priorities of the people in general. Almost 25 per cent of UK households are expected to be living in rented accommodation by 2030, so it is unsurprising as models like build-to-rent start to become more common other ‘alternative’ investment options will follow suit.

By Declan Flynn

Source: Irish News

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Commercial property sales fall for second quarter but Glasgow bucks trend

Commercial property sales values in Glasgow surpassed those of Scotland’s capital for the first time since 2015, new research has found.

Analysis of Q2 2019 data by the Scottish Property Federation (SPF) showed that the total value of commercial property sales in Scotland continued to fall.

At £614 million, sales were the lowest in five years. While sales values fell, the number of transactions increased, indicating a decrease in higher value transactions rather than a lack of activity.

However, Glasgow broke from the national trend with the total value of commercial property sales rising against both the previous quarter and the same quarter in 2018. Sales in Glasgow totalled £172m for Q2, accounting for 28% of Scotland’s total commercial property sales.

Edinburgh lost its dominance to Glasgow in Q2 2019, following a significant fall in the total value of commercial property sales. At £108m, Edinburgh’s sales values decreased by £156m on the previous quarter and £14m on Q2 2018. The proportion of Scottish commercial property sales located in Edinburgh fell from 35% in the previous quarter to just 18% for Q2 2019.

SPF director David Melhuish said: “Glasgow was very impressive this quarter, outperforming Edinburgh for the first time in four years against a wider Scottish market that saw a reduced value of sales activity.

“Glasgow’s sales increase was fuelled by a number of £5m-plus deals, totalling £129m, whereas Edinburgh only secured £33m in the same category.

“A notable feature of Scottish commercial property investment in the Q2 period was the rise of capital sourced from Asia, which topped £250m for the first time on record, according to CoStar data.

“Ryden reported a standout £48m transaction for a Korean client of Knight Frank Investment Management.”

Source: Scottish Construction Now

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Commercial rent disputes drop to five-year low in Scotland

The number of commercial rent disputes reaching a third party in Scotland fell to its lowest level for more than five years, according to analysis from Knight Frank.

Figures obtained by the independent commercial property consultancy from the Royal Institution of Chartered Surveyors (RICS) showed that the number of cases being referred to third-party dispute resolution dropped from 169 in 2017 to 123 in 2018 – down just over a quarter, 27.2 per cent.

This is less than half, 42.1 per cent, of the 292 cases that went to independent assessment in 2016. It is also below the figures for 2015 (155), 2014 (125), and 2013 (147).

Independent experts or arbitrators are appointed to cases where commercial tenants and landlords cannot agree on a new rental agreement at a fixed-term rent review date. Typically, these are conducted every five years, depending on the terms of an occupier’s lease.

Most reviews state that the rent can only increase – not decrease. This is distinct from lease renewals, where the parties can agree whatever rent deemed appropriate, subject to prevalent market forces, local supply-demand dynamics, along with other factors.

Andrew Hill, partner at Knight Frank, said: “In the aftermath of 2008, most businesses became used to their rents reducing or staying the same. However, in 2016 we saw a spike in the number of third-party applications, as the market showed continued improvement and landlords in turn became more bullish in their aspirations on rental growth. This was disputed by tenants who had become accustomed to rent stagnation.

“Since then, the occupier market in Scotland’s central belt has become even tighter for both offices and industrial premises. Despite a challenging macro-economic environment, sentiment has continued to improve and there are real constraints on availability. As a result, it looks like we have hit another tipping point: generally, businesses appear more minded to accept rent increases provided there is compelling comparable evidence, as quality space remains at a premium.”

The numbers come against the backdrop of a tightening supply of available office and industrial commercial property space.

In Edinburgh, office lettings completed between January and March 2019 saw Grade A availability fall to only 235,000 sq. ft. – the equivalent of just one year’s Grade A take-up. Knight Frank predicted that, combined with other factors, this will drive prime office rents to £36 per sq. ft. by the end of 2019.

Despite a below-average first quarter for take-up in Glasgow, new Grade A availability – excluding refurbished properties – fell to 33,353 sq. ft. Headline prime office rates currently sit at £32.50 per sq. ft. in the city centre for new accommodation and £30 per sq. ft. at refurbished premises.

Mr Hill added: “Another factor at play is the risk and cost associated with pursuing a third-party award or determination. Arbitrators can attribute near all the third-party cost to the unsuccessful party, which can be a real sting in the tail for an organisation challenging and then losing a case against a rent increase. That can be a real deterrent at a time when much of the comparable evidence supports rent increases in prime locations.

“Of course, it’s not the case across the board. Retailers located beyond the main thoroughfares, in particular, are mostly seeing rents stagnate or even go into reverse. Prime offices and industrial, however, are still subject to a real lack of available space which, all things being equal, should put upwards pressure on rents for the foreseeable future.”

Across the UK, RICS said it had seen an average 6 per cent rise in commercial rent review applications from 2013-2017, while there was a 12 per cent decline over the last 12 months.

spokesperson for RICS commented: “The commercial rent review market moves with how the economy behaves – the last 12 months have been challenging for the sector.

“There is a significant change in retail habits with increased demand for online purchases, large retailers falling into administration, underperforming retailers being bought out – some at low-cost – and retailers merging operations. Overall, there is a desire for shorter leases and the commercial market has seen parties move towards lease renewals.”

By Andrew Hill

Source: Scottish Legal

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Prime UK commercial property rents increase 0.1% in Q1 2019

UK prime commercial property rental values increased 0.1% in Q1 2019, according to CBRE’s latest Prime Rent and Yield Monitor. At the All Property level, prime yields moved out 6bps over the quarter. Overall results in both prime rents and yields were driven by the continued outperformance of the Industrial sector.

Q1 2019 marked the ninth consecutive quarter of Industrial outperformance, with prime rental values increasing 1.0%. This is the sector’s lowest quarterly growth in prime rents since Q4 2015 as the stellar increase of 8.3% p.a. over the previous three years slows to more trend levels. Industrials in the North West reported the biggest increase in prime rents over the quarter (4.3%). Industrial prime yields were stable overall in Q1 2019. At the regional level, Scotland reported a -15bps decrease in prime yields while the Yorkshire & Humberside and North East markets reported increases of 29bps and 25bps respectively.

At the national level, High Street Shop prime rents fell -1.0% in the first quarter of 2019. This was an acceleration of the falls reported in Q3 (-0.4%) and Q4 (-0.4%) of 2018. Shopping Centre prime rents fell ‑1.3% over the quarter, while Retail Warehouse prime rents decreased -1.0%. Overall, High Street Shop prime yields rose 12bps in Q1. Prime Shopping Centre yields increased 12bps over the quarter. Retail Warehouse prime yields rose 25bps.

Office prime rents increased 0.6% overall in Q1 2019. Sector results were pulled up by the Central London (1.0%), Eastern (1.1%), Yorkshire & Humberside (1.2%), and North West (2.1%) markets. No UK region reported a decrease in prime Office rents in Q1. Prime yields for the Office sector were relatively stable overall in Q1 (+1bp).

Robin Honeyman, Senior Research Analyst at CBRE UK, said: “Falls in the Retail sector pulled down the All Property results in Q1 2019, despite the relative strength of Office and Industrial performance. Our Prime Rent & Yield data continues to show prime Retail coming under pressure, both in pricing and rental values.”

By David Tran

Source: SHD Logistics

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UK Commercial Property Set for Rebound

There’s a lot of cash on the sidelines waiting to snap up UK property assets once certainty on Brexit is known, according to real estate investment trust managers. However, they warn the market could see some short-term pain in the meantime.

Equity investors have been vocal in putting forward their expectation of cash flowing into the UK stock market once Brexit is resolved, no matter what deal we get. While it’s unlikely to be as dramatic in property, the asset class remains more resilient than many expected.

There’s money waiting to buy UK real estate, predicts Calum Bruce, manager of the Ediston Property Investment Company (EPIC), from both domestic and overseas buyers. “Once there’s some clarity, there will be a period where people will just digest what’s happen, formulate a strategy and then look to implement that strategy,” he tells Morningstar.co.uk.

Simon Marriott, investment director at London & Scottish Investments, agrees, though has sympathy with those continuing to hold off committing just yet. “I’m a believer when there is some certainty, anything other than no-deal, prices are going to get stronger,” he says.

Bruce explains that there is plenty to like about UK property, particularly for overseas investors looking for a safe haven in an uncertain world. “The UK ticks a lot of boxes for these investors,” he adds. These include a stable economy, favourable political climate for the asset class and yields higher than many other cities both in Europe and elsewhere.

“But why would they invest now if they think there’s going to be a slip in value and their euro or dollar will go further in a few months’ time? That’s why we need some clarity so these investors can go ‘right, now’s the time to come in and invest’.”

However, it seems likely it will be some time until that Brexit fog clears. While Prime Minister Theresa May’s extension to the Brexit deadline is flexible, odds are it will, again, go right down to the wire on October 31.

Therefore, this predicted pick-up in activity is likely to be a 2020 phenomena. Indeed, Nick Montgomery, manager of the Schroder Real Estate Investment Trust (SREI), thinks we’ll see a correction before any recovery comes about.

“Are we at the top of the cycle? If you look at the average for the market, we think values will fall,” he explains. “We’re not expecting a return to 2009 where values fell by multiples of 10%, but we are expecting a correction.”

As a result, he’s been selling some of his lower-yielding assets, including most of his retail portfolio, in order to build some cash and give him firepower once that correction comes.

Despite being late-cycle, Montgomery says there are plenty of opportunities around with “immense polarisation” between sectors. Below, we highlight three areas REIT managers are seeing, or expect to see, opportunities in the UK property market.

Regional Offices
Being the big hub, particularly for financial services firms, and capital, London will garner many headlines when it comes to the outlook for UK offices. However, many are now seeing opportunities some of the other larger cities in the UK.

Both businesses and the Government are beginning to spread their workforces around the country. The BBC has recently set up camp in Salford, while accountancy firm PwC has a new 80,000 square foot office in Leeds.

“These cities are not back-office locations anymore,” says Marriott. “These are all high-quality locations in their own right, with highly qualified workers who have made life changes [to] move out to the provinces because it’s closer to where they were brought up or their quality of life is better [than in London].”

With the UK one of the world leaders in artificial intelligence, companies are looking for more office space around university cities, too, like Oxford, Cambridge, Bristol and Durham.

Montgomery says Schroders is one of the biggest owners of commercial real estate in Manchester, having identified it as one of the “winning cities” in the UK moving forward.

“[Manchester has] great public sector leadership and a disproportionate share of public sector investment, which has drawn people into the city centre, with the population doubling over the course of the last 10 years or so,” he explains.

Retail Warehousing
Unsurprisingly, many are downbeat on the future for retail. Structural headwinds, including the increasing move to online shopping, have meant a lot of retail firms have either gone bust or are on shaky ground.

Those that have survived are now looking to downsize their store estate or reduce the rents they pay as shoppers increasingly eschew a trip to the high street or their local shopping centre.

However, there are still opportunities in retail. Bruce is the most bullish, arguing that the doom and gloom headlines don’t tell the whole story. “Retail is evolving; I don’t think it’s in terminal decline,” he says.

True, he cautions, retailers that have failed to adapt, evolve or change to the new environment will fall by the wayside, but others have done so and are well set to take advantage. Indeed, Bruce likes out-of-town retail parks in places like Hull, Barnsley or Sunderland, which lend themselves most to the click-and-collect model..

As ever, it’s all about good stock selection, of course: “not all retail warehousing is equal”. While the likes of Next and others are known to be looking at decreasing the rent they pay, they are also happy to increase their costs for units in good, profitable locations.

“We have a retail park in Prestatyn and have completed four rent reviews with River Island, Next, Card Factory and Costa and have got an increase on all of them because it’s a good park in a good location,” says Bruce.

The London & Scottish Investments team, which runs the Regional REIT (RGL), have only a small portion of their portfolio allocated to retail and that is overhang from portfolios they have bought.

Despite taking the decision not to consciously invest in retail when they launched their product back in 2013, they also have no plans to sell their two properties, which comprise a shopping centre in Bletchley and retail park in Swansea, any time soon.

“These are yielding well north of 8% so there’s no reason for us to sell them,” says managing director Derek McDonald. “We’ve got one very small void at Bletchley and none at Swansea and we’ve not had any CVAs, so why rush to sell them when they’re not hurting you?”

Central London Offices
Clearly, this one’s most at the mercy of the outcome of Brexit negotiations – and the UK leaving without a deal would not be positive for the asset.

But Bruce says the office market in the capital has been more resilient than expected. “There are people hedging their bets, but I don’t think it’s been as dramatic an exodus as people expected.”

True, the market has hitherto been too expensive for Bruce to justify getting stuck into, and pricing is still not there just yet. However, he’s encouraged that “more things are coming across our desk which we’re interested in doing something with”.

“Rents are probably under pressure more than they are in other parts of the country, but in the main there’s been pretty good take-up and supply is at a reasonable level.”