The tipping point in UK real estate may have been reached: British Land has reportedly put the Meadowhall mall in Sheffield, in the North of England, up for sale. A price tag of £750 million is likely attached.
Meadowhall is an 1.5-million-square-foot mall that is 98% occupied and anchored by Marks & Spencer and Primark. The owners say its footfall is 24 million people a year.
There have been no outright sales of super-regional UK shopping centres – those with three or more anchors that are also bigger than 800,000 square – for several years and no sales of UK property in any sector above £500 million in 2023. That is largely thanks to the depressed investment market that has been in place since the Liz Truss government’s mini Budget, where it laid out its fiscal priorities, last September crashed the pound and sparked an ongoing period of interest rate rises.
While it is unclear whether BL and its joint owner, the Norwegian sovereign wealth fund Norges, will proceed with a sale, it has left the market asking whether the UK is returning to a point where such large-scale assets are becoming more attractive to buyers, and in turn whether the UK itself is looking more appealing to large-scale global investors.
As Oli Horton, partner at adviser GCW, points out: “It is a huge test of how interesting the UK is to international investors. It will be really interesting to see who the buyer pool is as it falls into sovereign wealth territory. BL and Landsec clearly have confidence in liquidity in the retail property market. Maybe this is the bottom of the market.”
It is easy to find headlines and data to reject that theory. In recent days British Land has said that it has been paid £149 million by Facebook parent Meta so that the social media giant can exit Euston offices at 1 Triton Square that it had prelet and never occupied. Meta announced its decision last year as it joined other tech groups in planning to massively scale back footprints, but the news has still jolted the market.
That is because such exits feed into gloomy commentary about vacancy rates. CoStar data shows City of London office vacancy levels at above 11%, for instance, their highest level since 2004 as the capital continues to see the macro economic backdrop and the working from home trend hold back occupier decisions.
In the last week, real estate stocks took a battering when analysts at Jefferies downgraded their recommendation on leading UK office landlords arguing: “Utilisation has shrunk and landlords are losing pricing power as tenants offload surplus space. Vacancies are at a 30-year high with the West End 7%, City 10% and Canary Wharf we estimate over 20% with the tipping point for a rental recession historically around 8%.”
Real estate investment remains muted too. Only £7.5 billion of property assets changed hands in the second quarter, reports Lambert Smith Hampton, down 10% on the previous quarter’s already low figure, and 41% below the five-year quarterly average.
A general election looms next year and the incumbent Prime Minister Rishi Sunak is beginning to propose increasingly radical ideas on everything from scaling back a number of targets aimed at ensuring the country becomes a net zero carbon producer to taxation as he fights the very real threat of being voted out in favour of a Labour administration, or a Labour-Liberal Democrat administration. This culminated in the scrapping of the Northern leg of the high-speed rail line, HS2, on Wednesday after weeks of speculation.
There is, however, evidence that British Land might just be on to something, prompted by direct intelligence from sovereign wealth funds and international investors.
Transaction-wise, September and October are set to be very strong for central London office lettings as a trend for occupiers to move to best-in-class, sustainable headquarters continues.
As Mark Stansfield, CoStar’s head of UK analytics, points out, the picture is complex: “Although London’s vacancy rate continued to rise in the third quarter, thanks largely to a ramp-up in new deliveries, it remains far lower than big US markets like New York and San Francisco, and the string of major lettings in the City in recent weeks illustrates an enduring appetite for best-in-class office space.”
Analysts at Morgan Stanley are arguing that UK property companies “offer a compelling opportunity” at the moment as their balance sheets are well-capitalised and net asset value valuations are close to all-time lows. It points out that property stocks traditionally start doing well towards the end of an economic slowdown, and there are plenty who believe that moment has arrived.
That is thanks in large part to the Bank of England’s 21 September decision to keep interest rates at 5.25%. The Bank had been expected to raise the base rate from 5.25% to 5.5% but has paused to take stock of figures that showed inflation was 6.7% in August, a drop from 6.8% in July. Walter Boettcher, head of research and economics at Colliers, describes the decision as “boding well for the path of interest rates generally and an eventual recovery in UK commercial property transactional activity”.
The better figures have already led to the first inflows into UK property funds since July 2022, with notably an increase in buy orders and a reduction in sales.
Some larger ticket office sales have started to complete – most notably UBS’s acquisition of Bloom, which is social media platform Snapchat’s headquarters, in London’s Midtown for in excess of £220 million and a circa 5% yield, and DTZ Investors’ acquisition of Coventry Logistics Park, Coventry for £140.415 million or a circa 4.5% yield.
And there are signs of global pension fund giants targeting the UK. Last month, The Healthcare of Ontario Pension Plan, one of Canada’s largest pension funds, said it planned to open a London office as part of its global expansion. Reuters quoted a spokesperson as saying: “We see value in London as a hub to effectively support and manage HOOPP’s growing assets.”
The article goes on to point out that Australia’s largest superannuation fund AustralianSuper is hiring more staff in London after committing to massive investment in development of London’s Canada Water alongside British Land. The country’s second-biggest superannuation fund Australian Retirement Trust has said it will open an office here. Superannuation funds are profit-for-member funds and are effectively the Australian equivalent of British pension funds.
Nick Braybrook, partner and head of central London investment at Knight Frank, points that global markets worldwide are struggling and, in this context, London has continued to perform well. “While real estate investment has slowed globally this year, London has retained its longstanding appeal as the top destination for global cross-border capital. So far this year, across all sectors, London has seen overseas inflows of around $4.8 billion, followed by Paris at $4.1 billion, Toronto $4 billion, New York City $3.5 billion and Los Angeles $2.3 billion.”
So is the UK ready to shine again? There are plenty in real estate prepared to argue just that.
Firstly, for various reasons UK real estate looks to have repriced speedily to provide good value on the global stage.
Remco Simon, Landsec’s chief strategy and investment officer, who began his career in his native Netherlands, points out: “If you compare the UK and London specifically to other markets it never really had the last leg up of the upcycle that many continental European markets had from the last few years of the Quantitative-Easing induced bubble because post-Brexit it plateaued.”
Simon points out that major global centres such as Paris and Berlin saw yields fall to sub-3% as global in that period while London did not while global investors tried to understand the impact of the UK’s divorce from the European Union. He adds that valuers in the UK adjusted valuations much quicker over the last 12-18 months than in Continental Europe. “If you look at the logistics REITs for instance and London office in contrast to Continental Europe, valuers have marketed closer to reality quicker.”
Darren Richards, the head of real estate at British Land, agrees: “I think we are reaching a really interesting point particularly given the strength of the occupational market for best in class, I just don’t know the speed at which we travel through it.
“People are starting to come back to the conclusion that the UK and London is still a pretty safe and attractive place to land capital but the product has to be right.”
Stephanie Hyde, CEO UK and CEO EMEA markets at JLL, in an emailed statement, said UK property investment remains constrained by macroeconomic factors, but believes the “transition to a more expansionary market is nearing”.
Hyde says recent transactional activity backs this up. “As the Bloom deal in Clerkenwell illustrates our forecasts suggest prime pricing is at or close to the bottom, and recent comments from the Bank of England and inflation data are supportive of this. We certainly expect improved transaction volumes through the end of the year and into next, but for those improvements to be gradual and incremental over a number of quarters rather than the big bounce back we saw post-pandemic.
“JLL continues to see investors that are identifying value in quality locations and sectors. This is encouraging, albeit too soon to call a clear turn in market conditions.”
The situation is being aided by a cheaper pound against other currencies. There is also more confidence that interest rate rises have come to an end.
Landsec’s Simon says investors are still waiting to see where interest rates will settle but the UK is either at or nearly at the peak. “You could see London and the UK unlocking first with the Continent a bit behind.”
BL’s Richards agrees: “In the absence of something else unpredictable happening it is heading in the right direction. What investors have been waiting for is some clarity as there has been such a wide spread of possibilities in terms of cap rate, interest rate and then speculation on working from home. The range of outcomes is shrinking in a positive way.”
Simon says the reality is that investors continue to see London as a key global city. “The exodus of bankers has not happened and it still has access to many of the top universities in the world and valuations look more sensible.”
And the politics seem to be fazing few. One leading UK developer, who declined to be quoted on the record due to the sensitivities of commenting on political issues on behalf of a company, said: “There is very little angst about the upcoming political elections. People think we are through the worst of the political upheaval and have some grown-ups in charge and Labour are making the right noises too. “
Philip Hobley, partner and head of London offices at Knight Frank, says occupier demand for London’s office space is starting to recover after a quiet start to the year.
“Take-up in the second quarter increased almost 10% versus the first quarter, but the real story is the continued focus of demand for new development or refurbished space. Our figures show that over 60% of take up has committed to this quality of office space.
“Near-term demand is well-supported, with 3.4 million square feet of deals under offer, and 9 million square feet of active requirements for space across London.”
Hobley suggests businesses need to secure options early, given potential supply figures indicate a shortage of almost 10 million square feet between 2023-26. He adds that the adviser expects prime rents to grow by almost 4% a year over the next five years in submarkets such as the City core and West End core.
Nick Braybrook, partner, head of London Capital Markets at Knight Frank, adds that none of this has been lost on investors.
“Whilst acquisitions have been far more challenging for debt-backed buyers, private capital has stepped in, accounting for almost half (44%) of London office investment this year. The recent purchases of Bloom for £220 million and Bleeding Heart Yard for circa £40 million by private investors have both suggested a stabilising of prices for the best assets.”
Braybrook also argues that a growing number of investors see an opportunity to address London’s significant refurbishment challenge. “In a recent Knight Frank survey of investors managing almost £300 billion of assets, 58% said they were actively looking to acquire assets to improve, upgrade or reposition.”
If John Mulqueen, chief investment officer at Canary Wharf Group, is feeling browbeaten by the negative headlines about high profile relocations from and high vacancy levels at the Docklands business estate, he certainly is not showing it.
He says real estate investors have seen a challenging environment since 2019, from the pandemic to global economic and political uncertainty, rising inflation and changes in debt markets, but that creates opportunities for experienced long-term investors and operators.
“To succeed, differentiation in the market remains key. Canary Wharf has transformed from a finance district to a vibrant mixed use neighbourhood today – with over 18 million square feet of offices, 2,200 homes, 1.1 million square feet of retail and leisure and 16.5 acres of green spaces and waterside living.”
Mulqueen says, more than anything, people want to be better connected. “Traffic across the estate is at an all-time high, with footfall numbers 33% higher year to date compared to 2022.”
Jonathan Price, an expert in finance and flexible offices who built a £60 million portfolio of business centres for Close Brothers between 2000 and 2006, says the recent angst about coworking group WeWork’s viability masks strong performance in the flexible offices market otherwise.
“I think real estate is looking more attractive from an investment point of view and I have put my money where my mouth is by buying some REITs for my personal pension fund recently. Time will tell if I moved too soon, but recent news from the UK’s major players has been more positive than the economic news in general.”
Price says something else that encouraged him to invest this month is the situation in his specialist sector – coworking centres. “The media are so focused on the slow-motion collapse of WeWork, which is indeed fascinating to watch, that they have not noticed how busy the independents are.”
UK retail is also looking “really interesting” according to Landsec’s Simon: “You had the big reset in retail from 2017 to 2021 in the depths of COVID. We are now seeing retail sales back to where they were for our customers before the pandemic but rents are a third lower and values two-thirds lower.
“We have been talking for a while saying the good stuff is getting better and better, but the bad stuff worse. Inditex recently said they want fewer stores, but at the same time will invest in bigger and better stores. That really makes sense.”
That means the scene could be well set for Meadowhall to come to market, as a centre that remains 98% occupied. The likely buyers will be global investors with very large pockets without the need to rely on debt in the high-margin environment and that means, most likely, sovereign wealth funds. REITs such as Landsec, which has made it clear it wants to buy major shopping malls in recent trading updates, are potential investors.
“For the right shopping centres I think there is value,” Simon says without focusing on Meadowhall. “They have repriced and if you look at where cap rates are for the best in the UK against Continental Europe and the US there is a significant gap.”
Simon says that part of that is a result of the demise of Intu – one of the UK’s largest shopping centre owners before it collapsed into administration during the pandemic – which meant the investment market in the UK became characterised by a broken ownership structure of lenders, bondholders and reluctant historical joint venture owners and that decoupled the market from elsewhere. “For the right assets if you can underwrite at sensible rents there is good value. We have definitely started to see some selected competition for units in the best locations.”
Martin Towns, deputy global head of real estate at M&G Real Estate, says UK real estate has faced many challenges that are common to other Western economies – slower economic growth, inflation, rising interest rates and changes to working patterns which were turbo-charged by COVID. But he says the UK benefits from having always been transparent and highly liquid.
The 2022 “mini Budget” and resulting crash exacerbated the situation, Towns says, especially the speed of correction.
“Today – set against a slightly more positive economic outlook and, importantly, robust occupier demand and rental levels – global capital is starting to eye the cyclical opportunity in the UK,” he says.
However, if the tide does come back in it won’t “lift all boats”, Towns says.
“Certain older, poorly located office assets have an uncertain future. Yet conversely, best in class, new city centre office, with high levels of amenity are in demand – with rents ticking up in some cases; our 40 Leadenhall development is circa 70% pre-let ahead of completion next year.”
He adds there are a range of other top picks for investors viewing the UK: “The living sectors are seeing strong rental growth and demand for multi-let industrial continues to be robust.”
And the real value may lie in the sheer amount of debt that needs to be refinanced.
“In the interim, the standout opportunity remains lower down the capital stack, in real estate credit – where margins are attractive and the downside is protected. With a substantial volume of loans to be refinanced in the coming years there is a clear opportunity to tap right now.”
