Investor sentiment has weakened over the past six months, with transaction levels falling to a 10-year low. This mirrors the experience of other European capital cities. Although the office market has seen the greatest pressure on pricing, values have fallen across most sectors in 2023.
Office investors have seen the largest price adjustment, with pressure from higher vacancy rates, lower occupancy levels and the increasing need to upgrade older stock to meet tenants’ energy consumption/ESG requirements. Office-investment volumes are down and price discovery, particularly in the prime markets, remains an issue. For the first time since the financial crisis, we have not had any prime office sales and, although we estimate that prime office yields are now in the range of 5 to 5.25 per cent, there have been no transactions on which to base values. Secondary offices have continued to trade but at significantly lower prices. Values are most at risk for older offices with shorter lease terms, with prices down by up to 25 to 30 per cent in some cases.
The movement in yields has been a particular issue for the residential investment sector. With very limited standing stock, most institutional transactions have been structured as forward purchase/funding of new developments. Given the sharp rise in development costs, private apartment development is not viable at yields of close to 5 per cent. There were no prime PRS transactions completed in Q3 and those completing in Q4 were largely contracted in prior years.
Of the traditional sectors, activity has been strongest in the industrial markets. With yields moving out and occupier demand remaining strong, investors such as Remake, M7 and KKR/Palm Capital have taken the opportunity to acquire well-located logistics units, with the landmark transaction being the purchase of Amazon’s €225 million fulfilment centre in Baldonnell by Spanish investor Pontegadea.
Demand from the US and German investors, traditionally the most active sources of capital, has seen the greatest reduction. In part, this is a reaction to the higher debt costs/restricted lending but is also due to the attractive returns available from alternative sectors, particularly government bonds.
The most active institutional buyers have been the French SCPI funds. French buyers, including Corum, La Française and Iroko, have targeted assets offering higher returns with secure cashflows. The French investors have made up about 39 per cent of total transactions in 2023 and have been willing to invest in both core and more fringe locations.
Looking forward, although the first part of 2024 will remain challenging, there are signs that activity and values could recover by Q3/Q4. Bond yields have already started to fall and, although there is considerable uncertainty on timing, it is likely that interest rates will also be lower by year-end. There are also positive signs in the occupier markets, with office demand recovering and occupation levels now closer to pre-Covid-19 levels, particularly between Tuesdays and Thursdays.
Recovery will take time and, in the first part of the year, we are likely to see an increase in receivership sales, with the fall in values putting pressure on some borrowers’ loan-to-value covenants. The sale of these assets will, however, set a floor on the market and, with sentiment improving over the course of the year, investors buying in the early part of the year may prove to have been particularly astute.
