Downward trend in pricing of UK offices

DTZ Fair Value Index UK Q3 2011 notes significant fall in index score

Article posted: 29 Nov 2011

The UK all-property DTZ Fair Value IndexTM, which offers insight into the relative attractiveness of current pricing in the UK property markets, dropped from 50 to 33 in Q3 2011. The score indicates that the market outlook has become more challenging this quarter, with fewer attractive investment opportunities in the UK. The drop in the FVI score reflects the deterioration in the economic outlook.

In Q3 2011, six markets shifted category with five moving from WARM to COLD and one from HOT to WARM. There is only one HOT market – Manchester retail - this quarter. The lower index is the aggregate result of several downgrades to rental growth expectations, and uplifts in market pricing in Q3.

The downward revision to rental growth in several markets, including office space in Edinburgh, has led to more markets being rated COLD this quarter. The markets for office space in Bristol and Cardiff have been downgraded to COLD from WARM in Q3 due to yields moving in to 6% and 6.25% respectively and reduced rental growth expectations. The change in pricing in these markets is in contrast to the recent movement towards higher yields for office space in Newcastle and Leeds, supporting the WARM rating for these markets.

Despite the challenging economic environment, the majority of UK markets are still rated as either HOT or WARM owing to solid income returns in a low interest rate environment. These include the markets for office space in Leeds and the West End of London. Whilst capital growth is expected to be subdued in coming years, most retail and office markets are trading at yields of around 5-6%, which offers a substantial premium over five-year bond yields at 1.4% at the end of Q3. The majority of the UK’s markets are priced around fair value, with investment opportunities available across the office, retail and industrial sectors.

Tony McGough, Global Head of Forecasting & Strategy Research at DTZ said: “The drop in the index score for the UK reflects the deterioration in the economic outlook, particularly due to the ongoing European debt crisis. This is feeding through to our UK property market outlook via our forecasts for rental growth, which have been downgraded in several markets this quarter. Subdued demand and weaker business sentiment is reducing demand for space, lowering rental growth prospects, and subsequently expected returns, over the forecast period. However, while the index score has fallen relative to falling bond yields, property continues to offer solid income returns with over half of the 20 UK markets in our coverage classified at HOT or WARM.”

To download a copy of the report, visit the DTZ Research homepage here

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Posted by Julie