NB Real Estate - Q3 2008 Review

Against a background of financial turbulence and an uncertain economic outlook central London property markets are continuing to demonstrate resilience. Unlike the last major downturn in 1992, deals are still happening - even if the volume of transactions is significantly down on the average for the last three years. Sellers are now accepting more realistic valuations and long term investors are still seriously looking at the Central London market.

The market is continuing to undergo a correction with the outlook for Central London occupier and investment markets worsening over the last quarter. Values have continued to fall and negative rental growth is now apparent across all commercial property sectors. There is a disparity between the current level of supply, particularly in the City, and the level of occupier demand. In the face of rising costs, lower rents, longer void periods and falling capital values speculative development is being put on hold.

Despite all this, Central London real estate is still seen as one of the safest forms of asset in the world and a key element of any balanced investment portfolio. There is a huge weight of money from both the UK and abroad just waiting for the froth in property valuations built up over the last few years to go before they step in.

In a correcting market it takes time for valuers to persuade their clients of the new market realities, for clients to accept the falls, and valuations to get to the point where investors believe they won't fall further. This process is well under way with real market realisation prices now some 10 - 20% less than property valuations, a fact being reflected in expectations of future valuation falls. The key for the general market remains the availability and cost of debt. When purchase prices are seen as being at rock bottom in a medium or long term context, lending confidence will return.

NB’s figures for the third quarter show that there is still an active market across central London. In spite of the banking sector’s travails the City market saw take-up increasing by 36% over the previous quarter, availability decreasing by 5% and a fall in vacancy rates. At 4.7 million sq ft over the last year, take-up still remains significantly above the ten year average of 4.2m sq ft.

Inevitably, however, the current disparity between the level of supply and occupier demand in the City has been reflected in falling rental levels – down to £57.50 per sq ft from £60.00 per sq ft in Q2. Moreover, the recent crises at Lehman, HBOS and elsewhere mean that the expected dip in values is happening faster than expected.

The West End market held up remarkably well in Q2 and has remained active in Q3, but is now reflecting to a greater extent than hitherto the worsening economic climate. NB figures show take-up down by 22% on last quarter and availability up by 9% with vacancy rates creeping up too. However, the market is being supported by the fact that the supply of new development, particularly in prime locations, is comparatively modest and that landlords are responding with more incentives for tenants.

The likelihood is that investment will return as soon as sovereign wealth funds and others see greater signs of financial stability and so have the confidence to plunge back into a market that will almost certainly contain many properties at bargain basement prices. With so many "forced sellers", particularly among the UK retail funds, needing to raise funds there are soon going to be a lot of buying opportunities.

The medium and long term outlook for central London remains highly positive. Leading property figures speaking at the recent Offices 08 conferences remained optimistic about a market that they believe will be sustained in the medium term not just by London’s intrinsic strengths but also by the large population influx expected over the next decade.