After the global financial crisis, the UK has enjoyed a decade of economic growth, with little hint of recession in sight. The UK commercial real estate market has also flourished. Investors have deployed more than £500 billion of capital across all property sectors, while office occupiers have acquired more than 160 million sq ft of space. Values in many markets are now at all-time highs.
5 things to watch in commercial real estate in 2020
- City living will revitalise our city centres and drive property values in fringe areas to outperform the traditional CBDs
- Ecommerce growth will see demand for distribution warehouses increasingly focus on cities, especially London where the lack of industrial land is most acute
- Uncertainty in the global economy is likely to lower property investors’ risk profile, fuelling demand for prime UK real estate, particularly office and industrial
- Wellness will become a key focus for employers with less focus on cost reduction, creating a divergence in headline rents for best-in-class and secondary properties
- Crowdfunding and property management platforms will gain more prominence as technology becomes increasingly important for landlords, tenants and retail investors
Commercial real estate analysis often focuses on changes in economic indicators to explain trends. However, demographic change has also always influenced property. As we move into 2020, its influence will be as strong as ever.
Our Real Estate Outlook 2020 shows, the world’s urban population is growing as more people move into our cities. In recent years, the UK’s largest cities grew by around 1% each year, and this growth should continue in 2020.
Urban growth has often revitalised residential areas that surround city centres. In turn, businesses that have traditionally located in the city centre have been drawn into these areas, with the lack of new UK office space in traditional markets being an added push factor.
This trend is most evident in London; the London Borough of Hackney experienced 42% population growth between 1988-2015, with a further 23% expected by 2019.
Consequently, the area has had one of the strongest employment growth rates in London, which has led to robust office rental growth. Prime office rents have risen by more than 120% in the areas to the north and east of the Square Mile.
If occupiers’ focus on these areas in 2020, rental growth could outperform the traditional core areas of major cities across the UK.
As the shift towards city living becomes more pronounced, these new business areas should outperform the traditional markets. During 2020, these will be the areas to watch.
Continued ecommerce growth should ensure logistics is the one of the best performing UK commercial real estate sectors over the next 12 months.
The growth of online retail and the focus on prompt order fulfilment has increased demand for last mile delivery solutions, particularly in the areas around London. By 2025, same-day and instant delivery should be 20-25% of the parcel delivery market, as young consumers are more likely to choose same-day or instant delivery over regular delivery.
Logistics is a sector traditionally defined by big box warehouses in cheap, out-of-town locations, but developers’ focus is shifting to more densely populated areas where under-supply and a lack of available land are typical.
The next 12 months should see demand for distribution warehouses increasingly focused on cities, especially in London where the lack of land and undersupply is most acute. Accordingly, we expect London and its surroundings to see the largest real estate value increase.
In other retail trends, we also expect developers to consider converting secondary out-of-town retail parks into last mile distribution centres.
Ecommerce has had a visible impact on logistics and the high street, but its influence will spread much further in 2020.
Although a no-deal Brexit is now unlikely, property investors remain concerned about risks to the global economy, such as an escalating US-China trade war, and are likely to lower their risk profile.
While investors are chasing investment stock across the UK, most will consider London. Cushman & Wakefield estimates that more than £23 billion is currently targeting large, prime offices in Central London. To put this into perspective, just £20 billion transacted across the entire UK office market in the last 12 months.
Prime net initial yields for London offices are attractive compared to other gateway cities.
Moving out of London, prime yields of up to 5.5% in some of the Big Eight regional cities External Link make the rest of the UK particularly attractive at a time when the UK 10-year gilt yield is hovering at around 0.75%.
Prime yields for office and industrial assets should remain stable, although prime yields for retail assets may rise as the year progresses, reflecting the disruption currently taking place in that sector.
Meanwhile, private equity investors and opportunistic funds may see value in higher-risk assets if pricing continues to move out.
UK cities can benefit from growth in the digital economy. In 2018 the digital sector accounted for 6.7% of UK GDP; by 2028 this should rise to 7.5%. In London, the digital sector accounted for 12% of output in 2018, which should rise to 13.5% by 2028.
At the same time, traditional businesses are embarking on a digital transformation, often fundamentally changing their core services and products.
The common thread linking new and traditional businesses is the need to hire and keep talented employees. One of the best ways to meet this need is to improve employees’ working environment.
In 2020, employers will become more focused on employee wellness to improve productivity and less focused on reducing costs.
Occupiers want more flexibility when leasing office space; in 2020, the volume of flexible office space offered by landlords and third-party providers will increase.
We also expect developers to focus more on mixed-use and campus schemes that use retail and leisure to enhance employees’ work-life balance. This focus may also spur demand for office parks on the fringes of city centres.
In addition, we expect rental growth for best-in-class office schemes and secondary buildings to diverge. New, high-quality schemes will experience competition from prospective tenants, driving up prime rents.
Technology is affecting the UK real estate sector at an increasing pace, leading to structural changes in the way occupiers, investors and advisory companies will do business in the future.
The UK has seen significant investment into PropTech over the last few years. UK real estate tech firms raised more capital in 2019 than in the previous two years combined.
So far real estate tech has been focused on residential estate agency, which has spawned many successful ventures. 2020 will see property management and crowdfunding platforms gain further prominence.
Technology is transforming property and asset management. This transformation is likely to be most significant in London, where there is an abundance of large, multi-tenanted buildings.
As we move through 2020, landlords will increasingly use a central technology platform to interact with tenants.
The emergence of real estate crowdfunding platforms, where investors can buy shares in individual assets or portfolios, could provide direct access for retail investors to commercial property in 2020.
To date, access has been largely limited to residential and student property, however we are beginning to see the emergence of commercial property assets on these platforms.
Technology has been supporting and enabling existing real estate activities; in 2020 we expect it to start to create new activity in the sector.