London leads office values pricing correction
Pricing movement is playing out across Europe with Savills reporting seven of the core European office markets moving into ‘fair value’ territory for the first time this cycle, based on current pricing against the five year average risk premiums. Fair pricing indicates that the fundamental yield* is within 10% of market yield, says the global real estate advisor.
The seven core markets include London City, Amsterdam, Hamburg, Paris La Défense, Frankfurt, Oslo and Berlin, where Savills reports a return of investor interest following some of the weakest investment volumes in several years. As at April 2023, London City appears to have fully corrected, followed by Hamburg (-3%) and Amsterdam (-5%) which appear the markets closest to fair pricing, suggesting transactions in these markets will pick up first.
European prime office capital values require an average -15% correction at current pricing to meet fair value pricing, with a number of Western European markets now in fairly priced territory (+-10% of calculated market pricing). Alongside outward yield movement, the shift to fair value territory has been supported by lower inflation forecasts and stronger rental growth prospects, with Western European markets now expecting positive real rental growth over the next five years, Savills reports.
Given a weaker economic backdrop, economists expect there to be an interest rate reduction by the European Central Bank to 3% in 2024 and 2% in 2025, which will support the recovery in investor demand.
Tristam Larder, head of European Capital Markets at Savills, says: “While London is leading the way, prices also appear to be adjusting more quickly than ever recorded in mainland Europe, for example, prime Frankfurt office yields have moved out by 110 bps to 3.8% during the last four quarters, albeit there is still a dearth of comparable evidence.”
“We are seeing the majority of transactional activity at the value add end, with cash investors seeking to refinance at more favourable rates next year. Average lot sizes are significantly smaller, as buyers become more selective on building specifications and sales are withdrawn. As it stands, some private equity investors are adjusting their business plans from a buy-fix-sell to a buy-fix-hold strategy and are only likely to launch sales when buyer sentiment improves.”
Richard Garside, head of Central London Investment at Savills, says: “What this analysis shows us is that London is representing value in a European context, thanks to a speed in repricing and the Capital’s ongoing appeal to international investors.”
Mike Barnes, associate director European Research at Savills, says: “Overall, we appear to be nearly two thirds of the way through the price correction in Europe, although this varies significantly by market, and we expect that price discovery for average prime stock is likely to have completed by Q4 2023. Our analysis of MSCI UK capital values indicates we are observing the fastest correction of any recent downturn, twice as quickly as during the global financial crisis.”