The lack of market confidence in the outlook for commercial real estate can be seen in the almost daily announcements of wind-ups or mergers associated with UK commercial property investment trusts and the sales of marquee buildings at prices which reflect a poor return on investment for investors.
But with interest rates falling, and technology companies and others mandating staff to spend more time in offices, could the asset class be due for a revival?
At the other end of the trade, portfolio risk monitoring outfit Dynamic Planner removed property as an asset class from its portfolio metrics.
Matthew Norris, senior portfolio manager at Gravis Capital, says we have reached that point, but with one part of the market unlikely to ever recover.
He says that with corporate bond and gilt yields falling materially as UK base rate falls, the relative attractiveness of the income available from commercial property rents rises.
Norris says data from Knight Frank shows that valuations for most commercial property assets have “stabilised” recently, which he says is noteworthy at a time when the economy generally has struggled.
But he adds that with rates likely to fall from here, he expects the stabilisation of prices to convert into rising prices soon.
The extent of the decline and the gradual nature of the recovery is outlined by Aaron Hussein, market strategist at JPMorgan Asset Management.
He says: “The sharp rise in interest rates has hit the commercial real estate sector hard, with property values in the US, Europe, and the UK dropping by 15 per cent to 25 per cent – the biggest write downs since the global financial crisis. Commercial property values appear to have bottomed out in late 2023.
"As we move through 2024, we're seeing clear signs of stabilisation and modest gains. For properties with strong fundamentals, today's valuations potentially offer investors a once-in-a-decade opportunity.
"Historically, investing at or near the start of a rate-cutting cycle has delivered above-average long-term returns."
Norris' optimism is, however, centred around properties that have modern energy efficiency ratings and prime locations, with the rest becoming what he calls “stranded assets”.
UK government regulations mean that from 2030, property with an energy efficiency rating of below B will not be permitted to be let out, meaning owners will have to spend considerable capital improving the buildings.
Most recently constructed or renovated property will meet energy efficiency criteria, but older buildings and buildings in regional locations are less likely to, says Norris, who anticipates many of those buildings will not be sellable.
The downward trend associated with regional office assets can be seen in the most recent set of results of the Regional REIT, which wrote down the value of its assets by 5 per cent in the six months to the end of June 2024, and announced that around £20mn of the capital it raised from a recent share issue would be deployed on renovating and redeveloping assets within its portfolio.
