July 15, 2016
The UK has embarked on a new journey after Brexit, with the direction still unclear. Yesterday, Theresa May officially become the new Prime Minister of UK, settling part of the political uncertainties. But we are still at an early stage of understanding the full implications of Brexit for the UK economy and UK real estate market. Colliers International will share some insights on the market situation three weeks after Brexit.
Colliers states, after the referendum, the key word is “uncertainty”, we expect no overall clarity about economic, fiscal and regulatory matters until the Autumn Statement in late November or early December, although we may see some signposts with the appointment of a new Prime Minister.
Although there are uncertainties, there are positive signs in the economy. The UK economy is supported by household spending which depends, to an extent, on the “wealth effect” generated by rising house prices. Business investment and exports are not likely to contribute more strongly to the economy until 2017. Given the reliance on household spending, the biggest domestic risk to the UK economy is a base rate rise, but the indications suggest that a reduction in the base rate is more likely in the near future.
In terms of commercial real estate investment, income is king now. Pricing of core and annuity assets look stable, although opportunistic cross border investors are ‘testing’ the market. Some attempts to negotiate on price have been successful, some have been rebuffed. Secondary assets, by risk profile, are impacted as support for leveraged deals is reduced by leaders, and capital/asset management partnerships revisit the feasibility. With a number of UK property funds having closed to redemptions since the referendum vote, sales have already been announced and initial valuation evidence is expected to crystallise shortly.
Though the residential real estate market faces some short term shocks，there are many positive factors such as softening prices in the short term, low and lowering interest rates, increasing rents and the lowest exchange rate for 30 years. All these factors are likely to entice international investors to the UK market and cause housing price to increase in longer term.
Commercial Real Estate Market – Pricing is expected to remain firm for core and low risk assets
In order to fend off the risk of a recession following the EU referendum vote, stimulus from the Bank of England (BoE) is likely to comprise looser monetary policy, with a cut to the base rate a possibility in the near future. Ultimately the decision is for the Monetary Policy Committee (MPC) to make, but Mark Carney has emphasised the need to support growth and lower borrowing costs rather than stabilize inflation, with the BoE governor fearing a deferment of consumption and investment, as well labour market weakness. This is a positive sign for the real estate market.
If sterling and interest rate volatility remains in the range of expectations and Bank of England monetary policy accompanied by prudential regulation remains accommodative, Colliers believes a major correction in commercial property pricing may be avoided.
In addition, George Osborne is planning to cut corporation tax from 20% to 15%, making it the lowest rate among major economies. The objective is to attract business investment, which has been adversely affected by the EU referendum result and the ensuing uncertainty. The move is part of a new five-point plan, which also includes intensifying efforts to attract investment into the Northern Powerhouse, attracting investment from China, support for bank lending and preserving fiscal credibility. While there are threats of corporate de-camping to EU cities, UK demographics and the weight of existing pools of expertise will act as ‘pull’ factors and protect the UK economy from large-scale business defections to EU cities. Other pull factors include the lack of alternative business infrastructure and unfavourable tax regimes in other parts of the EU. Further, the Government Property Unit has announced a programme of civil service consolidation, largely driven by HM Revenue & Customs, that could generate demand for just under 5 million sq ft of office space in the English regional office markets by 2023. All these policies should support demand for commercial real estates.
The UK property universe is diverse and the risk spectrum very broad, defined by a combination of sector, geography and quality. At present, income is king and pricing is expected to remain firm for core and low risk assets. The exception may be Central London offices, where the high value and large lot size limits the buyer pool and concerns over Financial Services employment raises a question over future occupier demand. The small-scale quality end of the market looks like business as usual, with private buyers much in evidence. We also expect renewed interest in alternatives, such as hotels, student housing and build-to-rent, where the occupational markets remain strong. Beyond core and bond type assets, pricing is likely to adjust to new levels over time.
Colliers summarises that the impact of post-referendum uncertainty on UK commercial property will be mitigated by: (1) an undiminished weight of global capital; (2) an increasingly desperate global search for yield; (3) retention of the UK’s safe haven status; (4) lack of debt leverage; and (5) the strong cash position of UK banks and institutions.
For further information on Brexit’s effect on the commercial real estate market, please refer to our newly released report “Post-Referendum: Vote to leave and its short term impact on UK commercial property”.
Residential Real Estate Market – Short-term shock but price expected to increase in longer term
The Brexit undoubtedly is going to have a short-term shock on the residential market, with the reduction in house pricing felt hardest in the central zone areas. While investors and speculative buyers are likely to take stock of the situation, developers and housebuilders are less likely to buy additional land as share price impacts short-term liquidity. Also, there will be a reduction of new construction starts as developers try to sell through “existing stock”. Meanwhile, international market buyers are likely to come to the market to take advantage of the currency benefit and fallen interest rate, according to Colliers International.
For the medium term, Colliers do not expect the demand side to significantly decline as UK has always been a popular destination for local and international buyers. At the same time, existing supply side dynamics will be further impacted by new additional factors. The demand and supply imbalance will be exacerbated. We expect to see rents increase as local residents will choose to rent rather than buy under such imbalance. Housing price in London will likely to increase over the longer term due to these factors.
Catherine Chan, Colliers director of International Properties in China, commented, “There are many positive influences for international buyers such as softening prices in the short term, low and lowering interest rates, increasing rents and the lowest exchange rate for 30 years. All these factors are likely to entice international investors to the UK market.”
Colliers is also seeing increased interest from Middle Eastern and Asian investors in both commercial and residential assets, often from potential new entrants. While much of this interest is opportunistic and the pricing expectations unrealistic, this is evidence that UK remains a target, despite the referendum result. These investors have reportedly stocked up on sterling which they see as discounted by 10%.
Carlby Xie, Colliers head of Research in China, commented, “A 10% discount on asset prices on top of a 10% discount on sterling is equivalent to a 100 bps of increased yield for some assets. Prices do not need to fall far before UK real estate attracts a whole new tier of investors.”
About Colliers International
Colliers International Group Inc. (Nasdaq:CIGI) (TSX:CIG) is a global leader in commercial real estate services with more than 16,000 professionals operating from 554 offices in 66 countries. With an enterprising culture and significant insider ownership, Colliers professionals provide a full range of services to real estate occupiers, owners and investors worldwide. Services include brokerage, global corporate solutions, investment sales and capital markets, project management and workplace solutions, property and asset management, consulting, valuation and appraisal services, and customized research and thought leadership. Colliers International has been ranked among the top 100 outsourcing firms by the International Association of Outsourcing Professionals' Global Outsourcing for 11 consecutive years, more than any other real estate services firm.
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