Flight to Quality
Rents still rising for the best of the best
In a time where there is talk of ‘downturns’ and ‘recession’, here’s a few thoughts on why key parts of the London office rental market might weather the storm quite well.
It’s no secret that high quality space will command premium rents, but here are some factors working in favour of the ‘best of the best’. It’s also easy to see how stranded assets may emerge in greater numbers in the future, which is the other side of this equation. Under investment (perhaps influenced by recession or lack of pro-activeness) can easily convert into poor environmental credentials or other building attributes such as fire safety, hurting values even further.
Role of the office
I’ve been back to 4 days a week (often 5) for some time now. I like the buzz of being in and around people working on the same things as me, the opportunity for chance conversations, the quality of the space and facilities provided by my employer, not to mention the potential of a beer at the end of the day. Whilst most accept that the role of the office will never quite be the same as it was pre-covid, I have always believed we’ll end up closer to where we were before than many think.
We know future offices won’t just be a sea of desks. They must be high quality space enabling some form of hybrid working, which will be critical to attracting and retaining talent. The working environment will be reimagined which is why new stock, efficient, enabled and ready for a creative fit-out will continue to be in high demand.
New build supply
That simple equation, supply and demand. New supply has recently fallen across Central London and is likely to continue that trend, as projects face higher construction costs and a tougher time when it comes to overall viability. For the highest quality space, rents are still expected to rise over the next few years and yields may not move out too much because the demand for the best space is likely to out-strip supply.
Science Based Targets
The drive to top quality space is reinforced as companies are seeing the office play a key role in achieving corporate targets. I read that JLL estimate just under 700 companies based in Central London have signed up to Science Based Targets - that represents a huge amount of office space, which these companies are realising needs to be part of their wider corporate strategy.
Times do seem to be changing when it comes to valuations, with more consideration given to highly sustainable developments. That said, valuers are expected to reflect current conditions, not lead the market. They are led by transaction data, which does appear to be showing signs of pricing being affected by environmental factors and performance. It comes back to supply and demand, which will eventually wash through the valuations. Apparently, some bullish investors now assume a sustainability exit uplift, model premium rents and might even try to include Opex savings generated from sustainable performance.
The RICS Guidance Note published earlier this year gives advice to valuers, and it seems they might now speak directly to Sustainability teams to better understand the performance of a property. Plus, a year ago when Peter Pereira Gray undertook a RICS Independent Review of Valuations he recognised that sustainability and ESG factors will be key parts to future valuations.