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Strong first quarter for UK real estate investment

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As expected, the UK real estate investment market has enjoyed a strong first quarter, with prime yields edging down and investment activity notably ahead of the same period last year – according to global real estate adviser Cushman & Wakefield’s monthly market update.

Prime yields on average dropped 9bp in the first three months and stand below 5% for the first time since late 2007, while secondary yields continue to fall faster still, down 27bp to an average of 7.33%.

Despite these falls, the property premium to bonds remains marked, now standing at 327bp. This will continue to attract investment into the sector and push yields down, with a 20-30bp fall now forecast for the year overall for prime.

The pressure to invest is clearly mounting for many players and the market is growing ever more competitive, with allocations to real estate continuing to increase and new buyers still emerging.  At the same time, the high level of competition to lend is squeezing down the cost of senior and mezzanine debt and LTVs have drifted higher, although at 60-70% they are not expected to increase much further.

With ongoing stock shortages, particularly for prime, off-market activity remains high.  The supply side is nonetheless becoming a little more supportive of activity in some areas, with an increase in private equity sales, some profit taking and sales from UK funds and property companies, focused on smaller lots.  In particular, the amount of secondary stock coming to the market in particular is rising, notably for shopping centres and London offices.  Bank-driven sales are also a strong source of opportunity and with nearly €50 billion of loan sales in the UK in the last three years and more to come, recycling from these portfolios will be a notable source of stock going forward.

Cushman & Wakefield’s head of EMEA investment strategy, David Hutchings, said: The UK property market is in a good place, caught between global and local trends as strong international liquidity boosts demand and pricing and an improving local economy lifts confidence among both occupiers and investors. Whilst there are headwinds from the election and sterling to face, the evidence to date is that volumes will be stronger this year than last and the all-time record of £67.2 billion in the year to September 2007, looks likely to be beaten."

More investors meanwhile are looking towards new markets to find opportunities, with strong secondary demand now a feature in most sectors bar parts of retail.  Occupational trends are also supportive of more risk taking by investors as demand firms, availability falls, prime rents and incentives come into pressure and development interest rekindles.  With build costs rising faster than rents, occupiers will continue to face the choice of either paying higher rents to encourage new development or compromising on location or building specification.  To date, a modern specification has remained key and where demand has spread, it has very much been the best areas in ‘tier two’ locations which have benefitted, rather than off-pitch areas.

Cushman & Wakefield’s chairman of UK capital markets, Patrick Knapman, said: We continue to see strong investment inflows across all subsectors currently, although depth of demand is not uniform with a number of subsectors experiencing more intense bidding competition and the pricing of some secondary assets not reaching pricing expectations.”

Andrew Thomas, a partner in Cushman & Wakefield’s London markets team, said: “Regional markets have strengthened notably but London remains the stand-out pick for retail, with strong global demand again suggesting that the headline yield for the capital's top thoroughfares and shopping centres will be pushed further down in the weeks ahead."