UK prime yields fell 13bp in April to 5.3%, their lowest since November 2007 and the biggest monthly fall since 2009.
Shopping centre, retail warehouse and industrial markets drove the fall last month but all sub-sectors bar London offices are lower over the year to date and for most the trend is still firmly downwards. This continues to drive investors to expand their search area, with regional markets strongly in favour, notably for shopping centres, retail warehouses and offices in major cities. Secondary markets are also a growing hunting ground and as a result secondary yields are falling at a faster pace than prime, with the average secondary yield down 116bp in the past 6 months compared to a 22bp fall for prime.
However secondary yields are still only at their lowest level since 2012 and particularly where occupational markets are firming, further yield compression is likely.
Hence, while the market faces a shortage of stock, it is reacting appropriately by increasing prices and/or accepting more risk. As a result activity continues to increase, with Q1 13% up on the opening quarter of 2013 and volumes for the year to Q1 over 50% higher than a year earlier. Industrial volumes were ahead by 92% year on year, retail warehouses 86% and regional offices 66%.
With bond yields relatively stable, property’s yield advantage has fallen further, albeit now averaging 2.6% versus a 10 year average of 1.9%. Prime yields are also 86bp above the levels seen before the financial crisis hit, with shopping centres offering the widest yield gap compared to pre-crisis levels (169bp) followed by shops (146bp) and regional offices (144bp). By contrast, London office yields are only 37bp above their 2007 lows.
Demand in the market continues to broaden meanwhile, with new players emerging in debt and equity markets. A still growing range of international players are targeting the market but so too are more domestic investors and foreign share actually slipped in Q1, falling to 31% versus 44% for 2013.
Despite this, some are concerned that high levels of foreign demand are driving up pricing and will eventually hit liquidity given the long investment horizons of some global funds.
In reality, foreign investors tend to be not just the biggest buying group, but also the biggest sellers: 80% ahead of UK Institutions in the past year for example. What’s more, cross border investment is a two way street and the UK takes full advantage as the biggest cross border European player in the region in the last 12 months – 26% ahead of Germany. It remains to be seen which markets will produce the best returns for these investors but the ability to diversify is critical in today’s world and the added liquidity and stability afforded to the UK by foreign demand is without doubt to its advantage.
David Erwin, CEO of Cushman & Wakefield’s capital markets group, said: "2014 has certainly been a vintage year to date with a steady supply of good quality stock being offered to an almost endless supply of capital. Both global and domestic purchasers are active and we are in a hot sector where a medium term repositioning of asset allocation seems to be creating a sustainable demand. London continues to thrive – though not everyone seems to believe that the acceleration of pricing will last indefinitely – and the trickle of capital out to the regions continues to gather pace. We are also seeing a revision of attitude towards risk with development and secondary properties the obvious beneficiaries. Those who were shrewd enough to anticipate strong returns from the commercial sector in 2014 look set fair to be well rewarded and a busy summer seems likely."
Cushman & Wakefield’s head of EMEA investment strategy, David Hutchings, said: "A still growing range of international players are targeting the market but so too are more domestic investors and cross border players actually saw their market share fall in Q1, down to 31% from 44% in 2013. Despite this, some commentators are concerned that high levels of foreign demand are driving up pricing and will eventually hit liquidity given their usually long investment horizons. However, in reality foreign investors tend to be not just the biggest buying group but also the biggest sellers and what's more, the added liquidity and stability afforded to the UK by foreign demand is without doubt to the markets advantage."