Several significant challenges have shaped the UK economy in recent years and prompted a need for resilience and adaptability. The uncertainty surrounding the UK's withdrawal from the European Union has introduced complexities and uncertainties and affected trade relationships, regulatory frameworks, and investment dynamics. Additionally, the global COVID-19 pandemic presented unprecedented impacts on various asset classes, most notably hospitality, office, and retail.
Persistent inflation and high interest rates have left investors facing lower asset values and higher financing costs, which has negatively impacted levels of commercial real estate investment and overall market stability. Inflationary pressures have required careful monetary and fiscal policies from the government to manage price levels and sustain modest economic growth.
In addition, the UK economy has grappled with addressing structural issues such as housing affordability, regional disparities, and productivity challenges.
These factors have underscored the need for targeted policy interventions and investment initiatives to foster inclusive and sustainable growth across different regions.
The forthcoming election, forecast for Q4 and predicted to deliver change, will require a cautious approach from investors as they potentially navigate a new political landscape. To grasp the dynamics inherent in each asset class below we provide an insight into the primary sectors:
Logistics & industrial
Logistics fundamentals remain strong and are expected to improve in 2024, although investment volumes may remain subdued compared to previous years. Challenges persist, with borrowing costs anticipated to decrease but not to pre-2019 levels and strong rental growth expected to be a pivotal factor in investment and development strategies for logistics assets.
eCommerce growth traditionally drives logistics demand, with London projected to experience slightly weaker eCommerce growth in 2024. However, it should still see good rental growth and yield tightening as interest rates decline.
Prime modern logistics assets will be the focus, with sub-prime assets struggling to attract tenants, as investors are likely to favour prime assets due to their strong rental growth potential. Despite a decrease in tenant expansion, low vacancy rates are expected due to reduced new logistics developments.
Retail
Despite reduced retail investment in 2023, investment activity has proven more resilient compared to other assets, partly due to higher yields and investor interest driven by elevated debt costs. Supermarkets, retail parks, and value and convenience retail are all commanding investor attention, while prime high streets are benefitting from tenant interest shifting towards city centres.
However, shopping centres, especially secondary ones, are struggling to stay relevant, leading to a widening gap between prime and secondary shopping centres as tenants favour quality. Long-term projections indicate increased vacancy rates, with the UK currently experiencing a 15% vacancy rate overall, although this is significantly lower for prime shopping centres. There is a limited pipeline of new shopping centre developments, prompting investors to focus on repositioning and repurposing existing locations.
Residential
Prime multifamily assets in major cities are experiencing growing investor demand, driven by the imbalance between supply and demand in the private rented sector. While investment in the build-to-rent (BTR) sector decreased in 2023 due to high construction costs, expensive debt, and labour shortages, the sector is expected to rebound strongly in 2024, supported by persistently high demand and low supply. Lower construction costs and interest rates are anticipated to enhance the viability of forward funding opportunities.
Similarly, student accommodation faces a supply and demand imbalance, driving strong rental growth, despite limitations on new schemes due to stringent planning requirements. However, robust investment activity is expected in the student sector due to the acute supply.
The senior living sector is projected to have a slow start in 2024, with increasing investment volumes later in the year, driven by rising demand for senior living housing and a focus on occupier needs, particularly in community care and wellbeing.
Offices
Lower interest rates anticipated in 2024 are forecasted to revive liquidity in the office sector, with an expectation of prime rental growth. Despite this, investment volumes in offices are likely to remain subdued in 2024, although an improvement in the take-up of office space is expected.
Robust demand for high-quality office buildings in key locations throughout the year is projected to drive strong rental growth for prime offices.
Furthermore, it is anticipated that prime office yields will begin to compress by Q4 2024.
Hospitality
Constrained consumer demand, government initiatives, and rental discounting deals helped the hospitality sector recover quickly from the impact of COVID-19 closures. However, the growth in performance is now slowing, with less visibility surrounding pipeline and future bookings causing uncertainty.
Operational challenges persist, including skills and labour shortages, disrupted supply chains, increased energy costs, inflationary pressures, and interest cover costs, contributing to unpredictability in the sector.
The market also faces a significant amount of struggling stock, potentially leading to a surge of assets entering the market, coupled with a rise in companies facing financial distress; Q4 2023 recorded an increase of 25.9% versus the previous 3 months.
While the rate of build cost inflation has eased and created opportunities for those with available capital, additional development costs such as building safety requirements and environmental standards need to be managed. Owners and investors should prioritise future-proofing their ESG credentials to gain a competitive advantage and enhance resilience for the future.
