The drivers of demand for industrial real estate will continue to evolve
The continued and accelerating growth of online shopping has fuelled occupier demand for both big box warehouses and last mile urban logistics. These physical assets play a vital role in meeting consumer demand and stocking the white vans that deliver goods to our front doors.
Where there is strong demand for space, real estate investors will follow. Historically UK prime retail yields were 4% or lower for the best locations, while industrial yields were above 7% (and in some cases closer to 10%). Today, retail is being valued off multiples of 14 times income (or 7%) while Industrial is trading off multiples of 22 or (4.5%).
From 2008 until 2019 internet sales had been growing at 19% per year. Since the end of last year they have grown 49%. The more shopping that is done online, the more in demand industrial space there is likely to be. Demand for industrial real estate is, however, not driven solely by e-commerce—economic output, trade, and supply chain configuration also play a part—and each will be impacted as we emerge from the pandemic, and from Brexit.
How did leasing activity fare across the UK in Q3 2020?
Despite the pandemic lockdowns, take-up in Q3 represented a large increase on the levels of take-up in Q2. However, this should not obscure the trend of declining take-up that has been a feature of the market since the end of 2018. No doubt resulting from a stagnating UK economy caused by a mix of austerity and Brexit uncertainty.
Total London and South East take-up in Q2 and Q3 represented a substantial 56% decrease on the quarterly average rate of take-up over the last 10 years. This pattern was repeated across all the major London sub-markets including Ealing, Heathrow, Enfield, Barking & Dagenham and Bexley.
Across all regional markets Q3 take-up was up 11% compared to Q2, supported by strong demand in the North West, Scotland, South West and West Midlands. But although Q3’s take-up was 23% higher than in Q3 2019, the rolling 12-month total has decreased by 17% when compared with the same period last year.
Is availability of industrial space across London & South East and the rest of UK decreasing?
After the Global Financial Crisis, London industrial availability peaked at 21 million sf in 2012. At that point availability across the rest of the South East amounted to 62 million sf. Availability across London and the rest of the South East had been on a declining trend since 2012—falling to under 5% in 2018—but since the start of 2020 it has risen, now standing at 6.8%.
The Rest of UK availability also peaked in 2012, at 13%. It subsequently fell to 5.5% but has been rising again since mid-2019 and now stands at 6.9%.
There are clear divergences between sub-markets: as at the end of Q3, industrial availability rates in the dominant London sub-markets of Barking & Dagenham, Bexley, Ealing and Heathrow remained at 6% or less. In the key sub-markets in the rest of the South East, availability rates range between 3% in Maidstone and Medway to 12% in Oxford. Regional availability ranges from 5.8% in Leeds & Wakefield to 12.1% in Bristol.
The amount of available space in Kent has fallen by c.70% in the past five years, with logistics operators seeking space serving the port of Dover, Channel Tunnel terminal and London Container terminal, Thurrock to protect their operations from the risk of disruptions caused by customs checks required by a “no-deal” Brexit.
What is happening to rental values for industrial real estate across the UK?
The low availability mentioned above has supported rents across London and the South East. But rental growth has weakened recently.
In London, industrial market rental value growth peaked at 8% year-on-year in 2018 but had slowed to 2.5% in the 12-months to the end of September 2020. This pattern of slowing of rental growth since 2018 is also evident across South East submarkets, including Reading, Oxford and Portsmouth.
Regional rental values saw an uplift of 0.5% in Q3. But this must be considered in context of 2020 more holistically: over the longer term – since the beginning of 2020 – regional rents have decreased by 2.5%. This pattern of declining rental growth does not hold true across all regional markets—some key centres have seen rental values remain stable or even strengthen, with Birmingham and Manchester up 1% and Leeds up almost 2%.
How active have overseas investors been lately?
Over the past 10 years, overseas investors have accounted for a fifth of investment into London and South East industrials. Of the £623 million invested in Q2 and Q3 2020, 31% came from this investor group. The largest single investment deal in Q3 was Patrizia Immobilien’s acquisition of Quarry Wood Industrial Estate, Kent for £37.63 million. The largest domestic purchase was the Department of Transport’s £30 million acquisition of the MoJo site off J10a of the M20 to provide a post Brexit customs clearance centre.
Overseas investors historically account for around a quarter of investment into the regional markets each quarter. In Q2 and Q3, the invested 32% (£606 million). Large transactions include KB Securities £66.8mn acquisition of an Amazon Fulfilment Centre in Dunfermline (£66.8 million) and Exeter Property Group’s purchase a warehouse at Gloucester Business Park (£23.5 million).
How far have investment volumes and capital values declined?
In the 12 months to the end of September, investment into industrials in London and the South East amounted to £2.3 billion. This was down 16% on the same period last year. Investment into the regional markets totalled £3.9 billion, a 22% decline on last year. These falls do, however, compare favourably to the percentage drops in office and retail investment over the same period.
Capital values in London industrials increased by 1.4% in the nine months to the end of September, while regional capital values have decreased by -2.5%. Both have held up relatively well when compared to All Property capital values (-6.4%).