UKIT
UK Investment Transactions Bulletin Q1 2014
www.lsh.co.uk
Regional investment levels double
• Investment in the regions doubled in comparison with the same quarter
12 months ago
• The quarterly investment total was £10.88bn. This is a 36% drop in comparison
with Q4 2013, but is still the third highest level recorded since 2007.
• UK institutions were the biggest net-buyers for the first time since Q3 2011.
It is perhaps not surprising that property investment
dropped in Q1 after such a buoyant end to 2013. This
does not represent a shift in investor sentiment towards
property as an asset class though; with the total return
forecasts now in the low teens, we remain confident that
this year’s investment volume will eclipse 2013. Indeed,
notwithstanding the quarterly decline, the Q1 total is still
the third highest recorded since 2007.
Sector transaction yields
UK investment market activity £bn
Source: LSH Research
Starting with this edition of UKIT we will be monitoring the
UK hotel investment market in more detail. We have seen
significant investment into hotels over the last two to three
years and another £720m of hotels were purchased in Q1,
at an average transactional yield of 5.65%: the third lowest
after Central London offices and shops.
Source: LSH Research, Property Data, Property Archive
The fall in investment looks, in part, to be a hangover
from the previous quarter’s glut of very large deals and
also linked to the availability of investment stock. This is
especially true for UK property’s most sought after asset
class, Central London offices, where investment volumes
fell by 65%.
Even though volumes dropped, the all property transactional
yield came in by 12 basis points on the quarter. At 6.42%
it is at a six year low. This was driven by a big fall in the
industrial yield, which, at 6.98%, is also at a six year low.
(We examine the prospects for the industrial sector in more
detail on page six).
Outlook
The major indicators still suggest this will be a good year
for UK commercial property, with increased investment
volumes and total returns in the low teens. The economy
is firmly on an upward path and the occupier markets
are starting to reflect this. The institutions are seeing
record in-flows from retail investors in to their property
funds – £298m in February alone. Debt is becoming
easier to obtain. Finally, overseas investors continue to
place capital in the UK, which is now the fastest growing
of all the G7 economies.
2 UKIT Quarterly Bulletin 2014 Q1
Economic outlook
Regional contributions to growth %
With the good news continuing, we are confident
the UK economy is firmly on an upwards path.
Indeed, the strength of the recent data means the
consensus GDP forecasts have increased again, to
3% growth in 2014.
If we are confident that the recovery is, more or less,
locked in place, there are some important questions for
the property industry:
1. Which sectors of the economy are driving the recovery?
2. Will the gap in output between London and the
regions remain in place?
3. Is the recovery in consumer spending sufficient to
provide a boost to the retail market?
Which sectors are driving the economy?
The data shows consumer spending and the housing
market were behind the initial boost to the economy in
2013; however, despite the falls in inflation, this is not
sustainable in the long term. Therefore, it is much more
encouraging that business investment is expected to be
the main driving force behind economic growth from
2014 onwards. It is forecast to grow by almost 9% in
2014, before dropping back to around 6% per annum
through to 2017.
Source: Oxford Economics
rest of the UK: a favourable employment mix, growing
population, young and highly educated workforce and
its status as a “global city”. Therefore, while London
accounted for around 24% of GVA in 2013, it is forecast
to account for 27% of growth over the next 10 years,
actually further widening the gap in economic output.
Meanwhile, the prospect for the regional economies
remains good: they are forecast to grow by c. 2.5% p.a.
over the next five years, which is a significant improvement
on the previous five.
Consumer spending vs. retail rents % pa
This will have a material impact on the property market,
especially the office and industrial sectors. Office
occupiers will take on new staff and move to new
premises, while industrial occupiers, especially in the
manufacturing sector, will also invest for the future, via
new machinery, but also with new business premises.
Contributions to GDP growth % pa
Source: Oxford Economics, IPD, LSH Research
Is the recovery in consumer spending sufficient to
provide a boost to the retail market?
After a lengthy period when real incomes have fallen, the
drop in inflation mean real wages have finally started to
grow again. However, it is uncertain as to the extent this
will benefit the retail property market.
Source: Oxford Economics
Will the gap in output between London and the
regions remain in place?
London has leapt ahead of the rest of the UK in terms of
economic growth over the last two to three years. The
capital retains a number of structural advantages over the
The main beneficiaries of the change in shoppers’ habits
have been the internet retailers, with online retail sales
increasing 17% in 2013 and forecast to grow by 16%
in 2014 (Centre for Retail Research). The bulk of the
aggregate increase could therefore be swallowed up by the
internet rather than physical retail stores. This remains a risk
to the underperforming parts of the market; nevertheless,
we do still think the prospects for the retail market are
better now than they have been for a number of years.
UKIT Quarterly Bulletin 2014 Q1 3
Sector overview
Central London offices (CLOFs) remain the epicentre
of the UK commercial property market, although
there was a substantial decrease in quarterly
investment levels. The total transaction volume
was £2.71bn, a 65% drop compared to the £7.48bn
transacted in Q4.
The fall in investment is partly the due to the absence
of two exceptional deals – More London (£1.7bn) and
Broadgate Estate (£1.7bn) – that provided a major boost
to the Q4 figures. But there was also a fall in the number
of completed deals: we recorded 55 CLOFs deals in Q1 as
compared to 76 in the previous three months.
There was a similar drop in investment levels at the start
of last year, which we thought was supply related, as
the subsequent increase investment through the year
confirmed. This scenario looks to be repeating itself and
we expect an increase in investment volumes in Q2.
Yields move in for Rest of UK offices
The decrease in investment extended to the regional office
markets and both South East and Rest of the UK offices saw
a drop in investment levels. However, it is interesting that
weighted average yields for Rest of UK offices dipped below
7% for the first time since the end of the financial crisis.
In part, this was driven by a number of large deals for
buildings with a very strong occupier covenant, but the
unweighted average transactional yield also came in
over the quarter – from 9.9% to 8.3%. This inwards
movement is something we expect to continue through
the course of the year.
Transaction yields and volumes
Shopping centres top of investors’ lists
In the retail market the main story is the continued demand
for shopping centres from some of the major funds and
REITS. We have seen 13 centres change hands in the
first quarter of the year, of which five were over £75m.
The largest deals both involve Intu, which bought a 50%
stake in the Merry Hill centre in Dudley for £408m and
Westfield’s 1.2m sq ft centre in Derby for £390m.
With inflation at a four and a half year low and the long
awaited return of real wage growth now a reality, the
prospects for the retail market are better than they have been
for the last four or five years. Indeed, the consensus is that
2014 will see double digit returns from all the main retail
asset classes after three years of below average performance.
Industrial continues to outperform
In contrast to the retail market, industrial as a sector has
outperformed in the last 12 to 18 months. While investment
volumes remain below those recorded in the office and retail
sectors, demand for the available stock has pushed down
yields and driven up returns in to double digits. This quarter,
our industrial transaction yield has fallen to 6.98%, which
is the first time it has dropped below 7% since Q4 2008.
In particular, we have seen a large volume of deals for
multi-let industrial estates throughout the UK at yields of
under 7%. Legal and General’s purchase of the Clifton
Moor Industrial Estate in York for £42m at a 6% yield is a
good example.
Over £700m invested in hotels
For the first time, we have split out investment in hotels
from the rest of the ‘other’ category in order to better
illustrate the amount of money that is being invested in
to this sector. This quarter we have recorded over £700m
of hotel deals at a weighted average yield of 5.65%. The
largest of these is Starwood’s purchase of the distressed
De Vere Venues portfolio for £232m.
Volume (£bn)
Yield (%)
Sector
Q1 2014
Q4 2013
2013
Q1 2014
Q4 2013
Q1 2013
3 month
movement
(b.p.)
12 month
movement
(b.p.)
Shops
£0.96
£1.07
£3.38
4.87%
4.98%
5.74%
-11
Shopping Centres
£1.29
£1.31
£3.81
7.54%
7.57%
7.21%
-3
-87
33
Retail Warehouse
£0.38
£1.11
£2.46
6.74%
6.98%
7.36%
-24
-62
All Retail
£2.62
£3.48
£9.66
6.54%
6.71%
6.90%
-17
-36
Central London Offices
£2.71
£7.48
£17.40
4.62%
4.39%
4.95%
23
-33
Rest of South East Offices
£0.39
£0.88
£2.66
8.60%
7.69%
8.78%
91
-18
Rest of UK Offices
£0.66
£0.86
£1.99
6.62%
7.96%
8.47%
-134
-185
Office Parks
£0.93
£0.31
£0.96
9.82%
8.54%
10.54%
128
-72
All Office
£4.68
£9.53
£23.01
5.97%
5.73%
6.50%
24
-53
South East Industrial
£0.20
£0.30
£0.81
6.62%
7.06%
7.32%
-44
-70
Rest of UK Industrial
£0.48
£0.31
£1.00
7.12%
8.13%
9.52%
-101
-240
Distribution Warehouse
£0.47
£0.60
£2.17
7.58%
7.04%
8.96%
54
-138
All Industrial
£1.16
£1.21
£3.99
6.98%
7.41%
8.04%
-43
-106
Hotels
£0.72
£0.30
£1.58
5.65%
5.61%
4.73%
4
92
Other (incl. Leisure and Portfolios)
£0.72
£2.54
£6.71
6.32%
7.35%
6.28%
-103
4
All Property
£10.88
£17.06
£44.94
6.42%
6.54%
6.89%
-12
-47
Source: LSH Research, Property Data, Property Archive
Lambert Smith Hampton
4 UKIT Quarterly Bulletin 2014 Q1
Regional investment
Quarterly regional investment volumes excl. London £m
Investment in commercial property outside London
made up 39% of the quarterly total in Q1 2014, the
highest percentage we have recorded since Q3 2011.
Moreover, if you include the portfolio sales in this
figure – the vast majority of which are for regional
property – the percentage goes up to 55%.
Regional investment doubled in a year
There has been a drop in investment between Q1 and
Q4; however, if we look at where the regional markets
are now versus where they were 12 months ago, volumes
have almost doubled. This can be attributed to:
Source: LSH Research, Property Data, Property Archive
• The improvements in the economy as a whole
• The improvements to the occupier markets – both the
office and industrial markets saw increased take-up and
reductions in availability in 2013
• The expense of accessing Central London stock, which
is pushing investors out in to the regional markets in
search of greater value.
• The weight of money that is being placed in to property
funds by retail investors – monthly net inflows currently
average between £200m and £300m
Yields move in
The increased demand for regional property has been
reflected in pricing and we have seen transactional yields
come in over the last year. For example, rest of UK office
yields were at 8.47% 12 months ago, but have come in
to 6.62% this quarter. Drawing firm conclusions from
quarterly datasets is problematic, but if we annualise the
yield data, the trend is the same.
Investment at 12 month low in London
In London, investment volumes remain high, although Q1
did see the lowest level of investment since Q1 2013.
At the moment this looks to be supply related, rather
than a drop-off in investor demand. However, investment
in London was at an exceptionally high level last year
– higher even than in 2006/07 – so we would not be
surprised if it did not quite reach this level again in 2014.
Which way will prices go?
The key question now is what will happen to pricing
for prime Central London stock? Transactional yields
are around 3.5% for West End offices and 5% for City
offices, both of which are well below the long-run
average. Therefore, there does not appear to be much
scope for further yield compression.
However, with such a high proportion of investment in
Central London originating overseas, there are different
forces at work in the market: currency movements,
regulatory issues, and the different investment goals of
the Far Eastern pension funds, for example, are all having
an effect on pricing. Therefore, judging when yields will
finally start to move out is difficult. The test will come
when interest rates return towards their historical level
and rental growth flattens out, which will likely be from
mid-2015 onwards.
London and regional breakdown £m
42
London
434
UK regions
672
1,914
Retail
OfficeUK
Industrial
3,731
1,955
regions
1,109
1,019
Other
Total investment
Q1 2014
Q1 2013
£1bn (London)
£1bn (UK regions)
Lambert
Smith
Hampton
Source:
LSH Research,
Property Data, Property Archive
UKIT Quarterly Bulletin 2014 Q1 5
Buyers and sellers
Q1: Purchases and sales by type of investor £bn
In contrast to 2013, the UK institutions were the
biggest net-buyers of UK commercial property in Q1:
the first time we have recorded this since Q3 2011.
The institutions bought £3.27bn of property and
sold £1.96bn.
Institutional investment concentrated in the regions
The story of the return of the institutions to the market
dovetails with that of the return of the regions. The improved
economy and occupier markets and the net-inflows in to
property funds have all acted to encourage the institutions
to play a bigger part in the markets, especially those outside
London. Approximately 75% of the quarterly institutional
investment total was for property outside Greater London
and 60% was outside Greater London and the South East.
Legal & General are the most active institutional buyer
Of the UK institutions, Legal & General were the most active
investors, buying just over £900m of property. Of this, the
largest purchase was the mixed-use Hyperion Portfolio for
£550m from Telereal Trillium. Other active investors include
Threadneedle, LaSalle Investment Management, Aviva
Investors and Aberdeen Asset Management.
Overseas buyers still main driving force
Even though the institutions were the biggest netinvestors in Q1, in terms of investment volumes, overseas
buyers remain the main driving force in the market: they
purchased £4.96bn of stock and sold £3.77bn of existing
holdings in Q1. Both of these figures are above the
quarterly average recorded over the last 24 months. The
largest deal was China Investment Corporation’s purchase
of Chiswick Park in West London from Blackstone for
£780m. Despite this, there was a drop in investment from
Source: LSH Research, Property Data, Property Archive
the Far East in Q1 and North American investors accounted
for the greatest volume of inflows into the market. The
private equity funds such as Starwood Capital and Kennedy
Wilson have been active once again: Starwood purchased
two hotel portfolios and another mixed-use portfolio for a
combined £365m.
REITs and quoted companies more active in Q1
On an aggregate level, the REITs and quoted companies
had another above average quarter of investment,
although this was partly due to the two Intu shopping
centre deals, which total more than £800m.
It is also of note that we have seen the greatest volume
of purchases from private investors for a number of years.
This reflects general bullishness towards property as an
asset class and also the easing of the commercial debt
markets, which have loosened up significantly in the last
six to nine months.
Global investment into UK CRE £bn
0.26bn
1.88bn
USA
£1.88bn
Far East
£1.36bn
Middle East
£0.61bn
Germany
£0.29bn
Europe
£0.26bn
Other
£0.21bn
Source: LSH Research, Property Data, CoStar Group
1.36bn
0.29bn
0.61bn
6 UKIT Quarterly Bulletin 2014 Q1
Focus on the industrial market
Industrial investment volumes increased by 150%
in 2013 in comparison with 2012 and the sector as
a whole returned 13.1%; well above the market
average of 7.4% and the all property return of
10.5%. Moreover, our transactional yield index
shows industrial yields in Q1 2014 at their lowest
level for six years.
Investors continue to be attracted by higher income
returns, the chance to increase total returns through asset
management and the exposure to a wide cross sector of
the recovering UK economy. So what are the prospects
for the market and how can investors best exploit the
opportunities in this sector.
between demand and supply is greatest. We have used
our UK-wide coverage of the industrial market to analyse
current occupier requirements versus current grade A
supply to identify those regions. Our results show this to
be the West Midlands in first place, followed by the North
West, South East, East and London.
Market imbalance by region
Occupier market improves in 2013
Data from LSH’s Industrial and Logistics Market Review
2014 shows a substantial improvement in the occupier
market in 2013: take-up increased by 24% and grade A
availability now makes up less than 10% of total supply,
as compared to 30% in the office market. We also saw
prime rents grow in 26 of the 60 industrial locations
surveyed and secondary rents increase in 28 of the 60.
Scotland
Highest imbalance
Lowest imbalance
North
East
North
West
Yorkshire &
the Humber
Positive outlook for manufacturing
In the larger size-bands, the market can be broadly split in
to two sectors, manufacturing and distribution / logistics.
The outlook in 2014 for manufacturing is positive after
a number of years of falling output, but analysis by
individual sector shows wide variances. The two bright
spots are automotive and aerospace. The UK excels in both
categories and in the short to medium term the prospects
for both sectors are good.
From a property perspective this means demand for
premises close to the main manufacturing centres like
Bristol and Chester (Airbus), Solihull and Halewood (Jaguar
Land Rover) and Sunderland (Nissan) should be robust.
Airbus supports a supply chain of 400 UK companies and
around 100,000 workers. With order books increasing
in both sectors over the last two to three years there is
scope for expansion in these markets and this is something
property investors can look to be part of.
Retailers looking to optimise their networks
In the logistics market, most retailers are looking to
optimise their networks to service their various routes
to market rather than simply expand. But the shortage
of good quality logistics space throughout the UK is a
barrier to this. For example, some of the 3PLs which
would, ideally, only commit for five years are now being
forced to take 10 year leases because of the lack of
supply in their chosen markets.
This provides an obvious opportunity to speculatively
develop in the locations where the imbalance
Lambert Smith Hampton
East
Midlands
Wales
West
Midlands
Eastern
Greater
London
South West
t
South East
Source: Lambert Smith Hampton
Market imbalance by building size
Mid box
Source: Lambert Smith Hampton
Large
Medium
Small
UKIT Quarterly Bulletin 2014 Q1 7
The West Midlands is part of the UK’s industrial heartland,
but we recorded only £370m of deals in 2013. However,
yields moved in strongly during 2013, driving annual returns
of 15% and showing that there is demand for the stock
on the market. With the market experiencing high levels of
occupier and investor demand, the prospects are good for
those willing to take on more risk through development.
Demand / supply imbalance in the mid-box sector
On a national level, it is the mid-box sector (50,000 sq ft
– 99,999 sq ft) where there is the greatest mismatch
between demand and supply. Retailers, 3PLs and parcel
operators will continue to take-up mid-box space close
to major conurbations; primarily to service the whole
range of online retailing operations. Therefore, the gap
in provision of good quality space in this sector of the
market is another opportunity for investors.
Outlook
Rental growth and development are the keys to
outperformance
Greater investor confidence and improvements in the
economy mean yields will continue to harden in 2014.
Our transactional index shows industrial yields are still
around 100 b.p. above their pre-crisis low of 5.9%, so
there is scope for another year of yield-driven capital
growth. However, the two keys to driving outperformance
will be rental growth and development.
The consensus forecast is for industrial rental growth of just
1.4% in 2014, so investors who can improve on this within
their portfolios will be well placed. Similarly, where supply
of good quality space is running thin and tenant demand
is picking up, now is the time to speculatively develop and
take advantage of this supply / demand mismatch.
All property total returns % pa
The outlook for commercial property in 2014
remains more positive than it has been for a number
of years. Even though there was a drop off in
investment levels in Q1, we still expect total returns
to eclipse 2013’s 10.7% and for investment volumes
to outdo the £45bn we recorded last year.
More telling than the drop in investment volumes this
quarter, which is still the third highest quarterly
total since 2007, is the continued yield compression
seen in Q1. The all property transactional yield is at its
lowest level since 2008 and both office and industrial
yields are below their long run average. Only retail yields,
with the structural problems affecting parts of
the market, remain above average.
Our expectation is that the market will continue in a
broadly similar fashion from now towards the end of
2014 and the next General Election in May 2015:
• Central London stock remains desirable for a certain
type of investor and more generally where there is the
opportunity to add value through asset management or
development. The main limit on the market still looks to
be on the supply rather than the demand side
• A buoyant economy, improvements to the occupier
markets, easing in the debt markets and net-inflows
in to the property funds mean regional investment
will continue to account for a greater proportion of
the quarterly and annual totals
• Investors will continue to show strong demand for
portfolios, especially those with potential to add value
through asset management
Source: IPD, LSH Research
• The retail market will pick up as consumer spending
grows, but current trends will not be reversed to any
great extent. Therefore, those high streets that are
struggling will continue to struggle, and locally and
regionally dominant shopping centres attracting high
footfall will continue to flourish
The one note of caution is whether the pace of
expansion in the investment market is reflected in the
property fundamentals, or whether investors are running
too far ahead of the occupier markets. While there has
been a recovery in take-up and a drop in availability in
both the office and investment markets, key locations
such as Thames Valley offices are not booming yet in the
way that some would suggest.
The occupier market recovery is unevenly distributed and
has not yet extended to all parts of the UK. While the
opportunities are there, as we have illustrated in our
review on the industrial market, local knowledge of micromarket movements and trends will be the key to success.
Lambert Smith Hampton
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