Secondary risks remain substantial, despite London offices outperformance – CBRE
Over the past 12 months, secondary office property in Central London has been the strongest performing sub-market within the UK commercial property markets, says CBRE. “Capital growth of 10.3% was achieved largely through a reduction in yields which contributed 7.4%, although rental growth of 2.6% also had a positive impact,” the firm says in its latest UK Property ViewPoint.
While investors are still mainly focused on better quality assets with longer-term secure income, CBRE points out that returns in prime markets are now becoming constrained, and increasingly dependent on rental growth. Over the past year, prime total returns were 9.2% whereas secondary total returns were 8.1%, it notes.
However, it warns very clearly that the risks in secondary markets overall remain “substantial”, noting that in addition to the questions of income security and re-letting risk, current economic conditions mean that any improvement in occupier demand could be delayed while at the same time the availability of debt finance could be reduced and lending standards tightened. “Under such conditions, yields could see further correction,” it notes. CBRE believes that these factors in combination “point to a more than usually prolonged secondary market weakness”.
“Given the recompression of prime yields and the wide yield gap between prime and secondary property across a number of sub-sectors, there would certainly appear on the face of it to be more value in the secondary markets, but with capital market conditions increasingly cautious and with continued uncertainty overhanging occupational markets, investors are likely to remain selective in moving up the risk curve,” the firm says.
CBRE says a set of very specific circumstances has brought about the outperformance of secondary Central London offices: prospects for the underlying occupier market are much rosier than for other secondary markets, and rental growth has returned to this sub-market, in sharp contrast to nearly all other secondary markets, where rents are still falling and growth remains some way off.
