Gerald Eve Forecasts Weak But Positive Property Returns In 2012

Continued economic uncertainty and the as-yet-unresolved Euro crisis, allied to on-going sovereign and corporate debt issues, will slow UK commercial property returns during 2012, but they will at least remain positive, according to the latest Investment Brief from property consultants Gerald Eve.

Continued economic uncertainty and the as-yet-unresolved Euro crisis, allied to on-going sovereign and corporate debt issues, will slow UK commercial property returns during 2012, but they will at least remain positive, according to the latest Investment Brief from property consultants Gerald Eve.

The firm forecasts an all-property total return of 5.5% during 2012, down from an estimated 7.4% in 2011 but still relatively robust given the circumstances facing the UK economy. The performance will be largely as a result of underlying marginally higher yields, although a return to rental growth of 1.3% (flat during 2011) will be a welcome feature of the market.

Robert Fourt, partner at Gerald Eve, comments: “Given the global uncertainty, investors are seeking low-risk options and, as a generalisation, the UK property market will maintain this ‘safe haven’ status over the next 12 months.

“That said, investment activity will be broadly limited to London markets, alongside a few regional exceptions and sector plays. This is likely to continue for at least the next year to 18 months as uncertain conditions become clearer and investors size up new opportunities.”

Aside from the Euro crisis and wider economic uncertainty, the Investment Brief has pointed to the stubbornly high levels of debt and the attractiveness of different asset classes as two of the larger threats to property performance during 2012.

Although debts are at the moment being managed fairly successfully, the extent of leverage throughout the financial system and property market indicates that even a relatively minor increase in interest rates could have a potentially devastating effect. Such action from central banks seems unlikely, but rising interbank rates indicate falling appetite for risk and this will impact on the sector.

In similar fashion, any upward trend in gilt yields could make property seem expensive as an asset class and encourage investment go into alternative sectors. Weak rental growth will limit the total returns from UK property during 2012, while gilts suffer from no such restrictions.

Further to these threats, it is ironic that a pick-up in the UK economy, while good for the occupational market and likely to have a positive effect on rental growth and vacancy rates, could initially be detrimental to capital values if such a recovery leads to rises in interest rates. Any rise in interest rates could see a commensurate appreciation in sterling and limit foreign investment in the UK property sector, investment that has a significant trickle down effect.

Robert Fourt continues: “The property industry is facing threats from a number of quarters, and even ostensibly good news has the potential to negatively affect capital values and hit total returns. As an investment, especially in such risk-averse times, property has to be viewed as competing with gilts for the same money and any differentials in return between the two asset classes will quickly lead to money flowing from one sector to the other.

“The level of debt remains an issue, but is manageable as long as there is both liquidity in the global financial system and a benign interest rate environment prevails. Any changes to these core areas could have disproportionately detrimental effects on the sector.”

The best-performing sectors will again be London offices, with returns in the region of 7%, but the differential in returns relative to the other sectors will be less than in 2011. Further troubles on the high street mean that standard shops and shopping centres are set to be the worst-performing markets.

The modest performance in 2012 prefaces three further years of relatively meagre growth, with an average annual total return of 7.1% predicted for the years 2011-2015. Again, it is the West End and City office markets that will drive much of this performance, with average annual returns over the period of 8.1% and 9.1% respectively.

The modest performance in 2012 prefaces three further years of relatively meagre growth, with an average annual total return of 7.1% predicted for the years 2011-2015. Again, it is the West End and City office markets that will drive much of this performance, with average annual returns over the period of 8.1% and 9.1% respectively.

Robert Fourt adds: “While relatively weak on a historic basis, average annual returns of 7% for the period from 2011 to 2015 will be far in advance of returns over the previous five years between 2006 and 2010. Although growth won’t be stellar, it will at least be in positive territory and the property industry should thank goodness for small mercies.”

For his traditional Christmas reading recommendations that accompany Gerald Eve’s Investment Brief, Robert Fourt has suggested: “Good Strategy / Bad Strategy: The Difference and Why It Matters” by Richard Rumelt; “Triumph of the City: How Our Greatest Invention Makes Us Richer, Smarter, Greener, Healthier and Happier” by Edward Glaeser; and “The American Phoenix: And Why China and Europe Will Struggle After The Coming Slump” by Charles Dumas and Diana Choyleva.

Robert Fourt finishes: “My recommendations this year are a mix of the relevance of strategy, the urban environment and global economic thinking in these uncertain times. All, I assure you, are thought provoking and have a particular current resonance.”

Visit the ‘Insight’ section of the Gerald Eve website to see the Winter 2011 INVBRIEF