The Brexit effect: a “sizeable correction” to values
The next Brexit deadline looms in just over three months’ time. Anyone under 46 in the UK will never have known what life is like to go it alone, and not be part of a union of 28 neighbouring countries.
No amount of crystal-ball gazing and consulting with experts over the past three years – since the UK’s EU referendum on 23 June 2016 – has provided the answer as to what form, or not, Brexit will take.
A disorderly, no-deal departure on 31 October will no doubt hit the UK economy hard, at least in the short term. The threat of such a departure is already filtering through to produce weak GDP figures.
But then, as billionaire investor Howard Marks told the FT: “For every asset, there’s a price that’s low enough to make the risk palatable… price is the remedy for everything.”
Impact on property is “surprisingly uniform”, whether October deal, no deal or delays
London-based research consultancy Capital Economics believes that the economy is well placed for growth to pick up by 2021, whether we are heading for a Brexit deal in October, no deal or repeated delays.
“Each of these three scenarios has different implications for UK interest rates and growth, but their property impact is surprisingly uniform,” predicts Capital Economics.
The different implications for UK interest rates and growth are:
- October deal: “Increased clarity would reduce upward pressure on yields this year. But we would still expect yields to rise next year as interest rates increase.”
- No deal: this would “cause yields to spike temporarily. Nevertheless, in this scenario, slightly lower interest rates over the next few years would keep yields lower than otherwise after the initial disruption.”
- Repeated delays: “Uncertainty would remain, and yields would continue to climb in the near term. But if the delay is long enough and yields have risen sufficiently, investors may look through this uncertainty, as they did from 2016 to 2018, and the Bank of England could increase interest rates next year anyway, albeit more slowly than under a deal.
“Although timings will differ, the impact on capital values is not likely to be too different,” says Capital Economics.
Cumulative impact on capital values over three years
Capital Economics estimates that the cumulative negative impact on commercial property capital values across the UK – including retail – over the next three years to be 8% with a deal, 9% with no deal, and between 8% and 9% for repeated delays. This includes retail, which is expected to fall by a cumulative 16% over the same time period.
Each scenario would bring a “sizeable correction to UK real estate values”, but not anything as severe as the crashes that followed the last two recessions – Capital Economics
As Capital Economics adds: “Each scenario would bring a sizeable correction to UK real estate values, but nothing as severe as the crashes that followed the recession of 1990-1 or the 2008 Global Financial Crisis, when property values dropped by over 40%.”
Market correction in latest Central London figures
Looking at the latest figures from the Central London office market, this market correction has already started to appear.
Transaction values fell by around 39%, to £5bn, for Central London offices in the first six months of 2019 when compared with the same period in 2018, according to JLL, the global real estate advisor. UK investors emerged as the largest source of capital, accounting for around a third of transactions.
Over the same period, the occupation market was only 6% below the 10-year average, with the volume of office space let in Central London in the first half of 2019 forecast to reach 4.3m sq ft.
A number of “global occupiers from all sectors … continue to compete for the best quality [office]buildings which reflect their brand and are a funnel to attract the best talent”, explained JLL.
Brexit is not the only risk to manage
To put the Brexit debate into context. How and when and if the UK leaves the European Union is not the only risk facing the UK property sector. Others include:
- Changes in interest rates
- The performance of the global economy
- Climate change
- Trade protectionism
- New patterns of space usage and tenant demand
In the meantime, down at Paddy Power, the odds are 2/1 on the UK leaving the EU in 2019 without a Withdrawal Agreement in place.
We might have grown tired of the B word, but the best way to face a challenge is to discuss it – and not to bet on the future.
The views in this article are the views of the author and do not necessarily reflect the views of Reed MIDEM.