Capital growth is the single biggest contributor towards the volatility of total returns in commercial property and one UK office market can vary hugely to the next. 

Figures released by MSCI indicate that since 2001 quarterly total returns have been consecutively more favourable for Central London’s office markets than any other UK region as a result of sustained capital growth. The West End office market has seen average quarterly returns of 2.71 per cent, 137 basis points above the North West which is the lowest performing office region at 1.34 per cent. So, in recent years, investors looking for stronger total returns have been most attracted to Central London

However, during times of market uncertainty, such as the period we find ourselves in now after the UK’s vote to leave the EU, total returns on commercial property tend to be income led. Investors therefore focus less on capital growth and instead look for well let assets with a strong covenant on a long lease.

Here again there is substantial variation between UK regions: London’s Midtown office market, which has changed significantly in recent years for reasons including the success of the serviced office sector, has seen the highest market volatility in the past 10 years in terms of total returns. Scotland on the other hand has seen the lowest volatility. Consequently, in times such as these, fund managers are more likely to consider options away from Central London favouring the perceived stability in the regional markets. Again, looking at Scotland, this change in investor sentiment has contributed to a 13 per cent uptick in investment volumes across Scotland’s commercial property market, compared with the five- year average for this stage in the year, as investors look for less risk. When it comes to the UK average, investment volumes are 3 per cent down.

As part of a long-term view, taking more risk does offer a higher return for investors however, in the short to medium term, we see market uncertainty as an opportunity for the regional markets to relatively outperform as they offer a more stable capital growth component.

Further information

Contact Savills Commercial Investment