‘Fundamentals will mitigate against severe contraction in prime office rents’

COMMENT From tracking the night sky to reading tea leaves, humans have a long history of trying to forecast the future using whatever tools are available to them. The Covid-19 outbreak has brought forecasting to the fore and while the tea largely remains in the kitchen these days in favour of more dependable data sets, the interpretation of that data remains pretty broad. Recently, analysts at an investment bank have used the global financial crisis and UK GDP growth to predict a fall in West End and City prime office rents of 27% and 23% this year, a view that I respectfully disagree with. While Covid-19 is certainly putting downward pressure on economic growth, the current market position is so unlike the global financial crisis that to compare 2020 with 2008-09 is to compare apples with oranges. It is my firm belief that while there will be a pause in occupier activity as we await clarity over restrictions, the London market’s strong fundamentals will mitigate against any severe contraction in prime headline rents this year. Low vacancy Let’s consider the limited supply. Vacancy rates across London are particularly low right now compared to both long-term averages and other downturns. This is one of the enduring consequences of the global financial crisis, as low levels of speculative development after that crisis have kept the pipeline under control, ensuring London is well positioned to absorb any demand-side shock. At the end of Q1 2020, the central London vacancy rate was 4.87%, compared with 7.14% before the global financial crisis, and 8.88% before the stock market downturn in 2002. Furthermore, the London office market has seen particularly strong preletting activity, driven by occupier concerns over the ability to satisfy requirements given the thin pipeline. More than two-thirds of space due to complete in 2020 is already committed. In previous downturns a major catalyst for falling rents was the release of space back to the market by tenants. I do not consider this as a significant threat in 2020. The tendency of tenants to acquire excess space for expansion reduced dramatically after the 2002 downturn; in the years since, improved technology has allowed tenants to adjust their occupational densities more easily, which has helped accommodate changing requirements. In addition, forecasts suggest that the economy will recover sharply in 2021, leaving tenants little time to monetise any potential vacancies in their portfolios. To date, Cushman & Wakefield has seen few examples of tenants marketing significant quantities of available space as a response to Covid-19 restrictions. Trading resilience London’s occupiers have also changed significantly. Data released by the Office for National Statistics showed that in the two weeks to 5 April, 84.4% and 78.5% of the workforce in the information and communication, and professional, scientific and technical sectors, respectively, were continuing to work as normal. This has largely been driven by the ability of these sectors to allow staff to work effectively from home. This trading resilience will enable these sectors to maintain employee levels; while more staff may continue to work from home once restrictions are eased, they will undoubtedly operate at lower densities, so space requirements are unlikely to change dramatically in the short term. This is supported by data from Cushman & Wakefield’s occupier representation teams. While a few acquisitions have slowed as tenants wait for more information about restrictions, only 3% of live projects have been cancelled. In addition, large requirements from the tech and legal sectors are progressing. Central London’s bias towards office-based employment is also expected to provide insulation against the impact of Covid-19 restrictions. While forecasts suggest that UK GVA could fall by 5% in 2020, inner London is likely to experience a contraction of just 3.1%. This, coupled with a forecasted fall of just 0.7% in London office-based employment in 2020, suggests that forecasts of a severe fall in prime rents are also unjustified. Digby Flower is chairman, UK & Ireland, at Cushman & Wakefield