London offices, and subdued investment volumes

Making sense of the latest trends in property and economics from around the globe.
Written By:
Liam Bailey, Knight Frank
3 minutes to read
Categories: Research

Conditions in the London office market improved in the third quarter despite the stagnant economic outlook. Take-up rose for a second consecutive month and prime yields stabilised in all markets, according to Knight Frank's latest London Office Market Report.

The 'flight to quality' continues to dominate leasing activity. Take-up rose 20% to 2.71 million square feet (sq ft), which is 14.6% below the quarterly long-run average. Prime space accounted for two thirds of all deals signed during the quarter. New and refurbished offices have now accounted for more than 60% of leasing transactions signed in the past year.

Key transactions hint at an improvement in sentiment. Two of the largest deals were signed by occupiers expanding their existing footprint. That included Kirkland & Ellis exercising 174,000 sq ft of option space at 40 Leadenhall Street.

Demand has become more dispersed in recent years amid the emergence of sustainable office developments in new submarkets in fringe locations, with the City and West End core submarkets commanding about 35% of leasing transactions. That trend has reversed over the course of the past year following the opening of the Elizabeth Line, and 45% of all activity now takes place in core submarkets. This has led to rental tension, with prime rents rising in the City Core from £75 to £77.50 per sq ft, and from £135 to £140.00 per sq ft in the West End Core.

Capital values

Investment volumes have remained subdued. Transactions totalled £1.29 billion, which is down 10% on the previous quarter and almost 65% below the long-term quarterly average.

That said, some key deals suggest sentiment is improving in a similar vein to London's leasing market. There were four deals for core assets during the quarter totalling £0.38bn. This could suggest a return of market liquidity for core assets, in contrast to the preceding quarters in which investments have remained concentrated on value-add assets.

Demand from private capital accounted for the largest share of transactions at 41%, followed by institutions at just below 25% and listed property companies at 8.6%. Investors from Asia Pacific remain the most active group with 35% of transactions over the last 12 months, followed by the UK with a 24.3% share and European investors at 23%.

The pause in base rate hikes has led to a moderation in 5-year swap rates. As a result, prime yields are unchanged in all London markets, at 3.75% in the West End, 5.25% in the City and 6.50% in Docklands.

M25 offices

Take-up in the M25 and South East region hit 870,831 sq ft in the third quarter, marginally above the long-run average and the highest total so far this year.

Organisations are reacting earlier to upcoming lease events, which is driving the deal count higher. There were 90 occupier transactions during the period, compared to the long-run average of 60. Cambridge and Oxford continued to register the highest interest, with the two cities accounting for 26% of take-up in Q3 and 31% when considered over the year-to-date. Close to 1.3m sq ft of space was under offer at quarter end.

Anticipation of pricing movement, high cost of debt and economic disruption for overseas buyers in their domestic markets has thinned the buyer landscape. Institutional capital remains largely absent, albeit this primarily reflects the lack of opportunities to buy prime stock. US Private Equity interest has also retreated. Analysis of 2023 transactions indicates that property companies account for most acquisitions at 37%, with private investors the next at 23%. Both have sought low-value buildings with long income or asset management opportunities.

Prime office yields in the South East softened by a further 25bps to 6.75% during the quarter, albeit the potential for additional outward shifts is reducing. You can read the full M25 & South East Market Report here.

In other news...

Public inflation expectations continue to ease in September (Reuters), Gove tells local authorities in England to stop four-day week trials (Reuters), and finally, residential landlords set to sell out at triple the 2021 pace (Bloomberg).