Real Estate Woes Run Deeper Than Brexit, Signaling U.K. Slowdown

Brexit: What the First 100 Days Could Look Like

While some investors have been quick to blame next week’s Brexit vote for the slowdown in U.K. commercial property sales, there are growing signs the market will stall, whatever the outcome of the referendum.

Brexit Watch: The pound, the polls, and the probability of Brexit, all in one place

Investors spent 16.9 billion pounds ($24.4 billion) on offices, stores, warehouses and other commercial properties from January through May this year, according to Real Capital Analytics Inc. data. That’s down from a record 33 billion pounds in the same period last year and ends three years of rising sales.

Aviva Investors, the asset management unit of Aviva Plc, last week lowered its forecast for total annual returns, a measure of values and rental income, from British real estate to 6.6 percent from 8.7 percent. In addition to Brexit, the possible re-emergence of Europe’s debt crisis, a faster increase in U.S. interest rates than currently expected and a decline in Chinese economic growth were among the risks cited by Richard Levis, a global real estate analyst at Aviva.

“The U.K. commercial property market has seen unprecedented growth in transactional volumes over the last five years which has led in part to a sustained rise in prices,” Adrian Benedict, investment director for U.K. real estate at Fidelity International Ltd. said in an e-mail. “The pace of price rises was always expected to slow and it is coincidental the slowdown has come at the same time as the EU referendum vote.”

The annualized rate of price growth for U.K. commercial real estate peaked at 12.95 percent in October 2014 and has fallen every month since to a rate of 5.91 percent in March 2016, according to MSCI Inc. data. That’s led investors to start focusing on buildings where rents can be increased instead of relying on price rises.

Attributing the slowdown purely to the uncertainty caused by the campaign risks misreading where the market is headed in the second half of the year, said Mat Oakley, London-based head of European commercial research at broker Savills Plc. A decline in capital growth rates is typical at this stage of a property cycle, he said.

Factors such as China and Europe’s debt crisis have been weighing on property markets around the world. The 40 percent drop in U.K. investment volumes in the first three months was equal to the fall in Asia Pacific deals and slightly lower than the 43 percent reduction seen in Europe, the Middle East and Africa, according to Real Capital Analytics Inc. data.

Prices are starting to drop in the U.K., with average prime commercial-property yields edging up to 4.69 percent in April from 4.62 percent a month earlier, the biggest rise since 2010, according to Savills.

“Investors are starting to ask very sensible questions about rental growth prospects,” Oakley said. “The investment market is definitely past its peak in volume terms and pricing terms but I think the leasing market definitely isn’t, so maybe the outlook is just for a gentle drift back towards income.”

If the U.K. votes to leave the European Union on June 23, demand for London office space will fall as businesses wait to see the impact of the decision before committing to new leases, Robert Noel, chief executive officer of Land Securities Plc, Britain’s largest real estate investment trust, said on an earnings call last month.

That will push rents down, which will have a knock on effect on investment volumes and values, Toby Courtauld, chief executive officer of developer Great Portland Estates Plc, said in an interview last month.

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