Domestic and foreign investors turn away from UK Commercial property as tenant turns negative

The Q3 2022 RICS UK Commercial Property Survey results point to a weakening in market activity, with the prospect of significant further interest rate rises weighing heavily on the outlook over the year ahead.

Key points from publication:

• • 81% of respondents view the commercial market to be turning down
  • Both capital value and rental projections turn negative for the year ahead
  • Overseas investment enquiries now in negative territory across all mainstream sectors.

On the occupier side, overall tenant demand fell to a net balance of -10%, down from +17% in Q2. This decline ends five successive quarters of growth, with virtually all parts of the UK seeing a downward trend for tenant demand in office and retail space, and although nationally demand for industrial space is still positive (net balance +21%) the figures have eased in each of the last three surveys (+61% posted in Q4 last year).

Unsurprisingly this decline in demand sees a further rise in leasable office and retail space, alongside a modest decline in industrial vacancies. This has triggered landlords to up the value and number of incentive packages to tempt prospective tenants.

In in-depth questions about the use of office space, close to 90% of our respondents expect businesses to scale back at least some of their office footprint over the next twelve months. The largest share of contributors (one-third) believes this reduction will be between 5 and 10%. That said, an almost equal share believes this trimming in office footprints could be between 10 and 20%+ over the year.  In our global version of this survey, interestingly, two thirds of respondents report observing a modest amount of repurposing of offices with just over 10% seeing what they describe as a ‘significant’ reshaping of the estate.

With structural forces impacting the sector, and a deteriorating macroeconomic backdrop, prime office rents are predicted to remain broadly flat over the year ahead, as opposed to the increase previously predicted. The outlook is more negative for the secondary, non-prime, office market. Alongside this, twelve-month projections slipped deeper into negative territory for prime and secondary retail, and for the industrial sector the projected rent rise is the most modest since the early stages of the pandemic.

In investment market a headline net balance of -18% of respondents cited a decline in buyer enquiries during Q3. This represents the weakest return for this metric since Q2 2020 and the series capturing overseas investment enquiries is now in negative territory (to a greater or lesser degree) across all mainstream sectors.

The twelve-month outlook shifted markedly during Q3 for capital values. Projections for prime office values turned negative, with the net balance falling to -21% from +15% last quarter. For secondary offices, a net balance of -51% of respondents foresees a value decline (compared to -26% in Q2). For retail, already negative projections were downgraded further, with a net balance of -49% of contributors anticipating prime retail values falling in the year ahead, while the net balance stands at -65% for secondary.

Around 40% of UK respondents now feel the commercial property market is priced above fair value, a steady increase of just 29% taking this view at the end of last year. This share is much higher in London, at close to 60%. Lastly, 81% of respondents now believe that the market is in some stage of a downturn.

Tarrant Parsons, RICS Economist, said:

“Deteriorating conditions across the UK economy are having an increasingly noticeable influence on the UK commercial property market, with higher interest rates, and the prospect of more to come, now clearly weighing on investor demand.

“The weaker survey feedback is particularly evident in the retail sector, as the cost-of-living crisis and falling consumer confidence takes its toll on household spending.

“Likewise, the office sector has also seen a renewed decline in demand, with ongoing structural changes to working patterns brought about by the pandemic further exacerbating the broader cyclical downturn in the economy.”

Kindly shared by Royal Institution of Chartered Surveyors (RICS)