Since the EU referendum take-up of office space in central London has defied expectations, with leasing activity up 23 per cent year on year and on the 10-year average. Similarly, availability remains considerably below the long-term average. We are also yet to witness any significant decline in headline rental levels, although there has been a reduction in net-effective rents as incentives have increased.
Forward-looking indicators also suggest a strong second half of 2017. Under-offers and active requirements are significantly above the long-term average, while the high level of pre-letting has minimised near-term speculative deliveries meaning vacancy rates should remain relatively stable. Looking beyond 2017, the performance of the central London office market is highly dependant on the terms Britain agrees when leaving the EU and the speed in which those terms are agreed.
As has been much publicised, the banking sector could be the hardest hit by regulatory change due to Brexit, and banks are beginning to finalise their plans to move some functions to the EU. However, they will clearly need to retain a significant presence in the global financial centre that is London. Deutsche Bank's recent pre-let of over 500,000 sq ft at 21 Moorfields, EC2 on a 25-year lease provides a clear example of this. While we are likely to witness a reduction in the banking sector's London footprint, despite Brexit the tech and media sector continues to drive take-up across central London with Apple, Google and Amazon all reaffirming their commitment to the capital.
The greatest risk to future take-up levels is any restrictions imposed on immigration which could potentially restrict London’s labour pool, resulting in skill shortages that could lead to businesses locating elsewhere. However, Home Secretary Amber Rudd's recent statement that 'The UK must remain a hub for international talent. We must keep attracting the brightest and the best migrants from around the world' suggests the Government will seek to address this issue. Furthermore, Oxford Economics forecasts greater London’s office-based employment to consistently grow over the next nine years which bodes well for future take-up levels.
A sharp recovery in the value of the pound appears unlikely in the near future. This should ensure that London property continues to look comparatively cheap to many non-domestic investors and as such we expect international investors to continue to dominate and volumes to remain at above average levels. There will continue to be particularly high levels of demand for high-quality space and income.
With London’s current dependence on international investors, a clear risk to the market would be a global financial crisis-style shock that causes a reduction in demand. However, even if non-domestic investor demand were to fall, the gap would quickly be filled by well-capitalised opportunistic buyers, such as the UK REITs, all of whom are waiting for a less competitive market in which to acquire assets or land. As such, if anything were to occur that dampened international demand causing a softening in yields, we would expect the domestic institutions to re-enter the market.