Research

UK Economic Overview

Four months have passed since the referendum result, during which time we have seen a number of new developments, including a change in government, a succession of upbeat data on the domestic economy and quick monetary stimulus action by policymakers (an extension of its asset purchasing programme and a 25bps cut in the base rate) which has softened the adverse post-Brexit effects that were assumed by many economists.

In fact, the latest economic indicators suggest that the UK has weathered the impact of Brexit relatively well. The economy continued to expand by 0.5% in the third quarter, down from 0.7% in Q2. UK productivity (as measured by output per worker) has surpassed its pre-crisis level, and trends in the consumer sector remain encouraging. The GFK consumer confidence indicator picked up in August, and consumer credit growth is in double digits (10%yoy), suggesting that households remain keen to increase their levels of borrowing to supplement their spending power. A recent bounce back in business sentiment has also added to the flow of good news. The latest figures by PMI suggest that the economy will expand over the next 12 months (albeit at more subdued levels than in recent quarters), reducing the probability of the UK economy falling into a Brexit-led recession.

While the news flow remains optimistic, a number of challenges lie ahead. A key concern in the short term is inflation. CPI inflation rose from 0.6% in August to 1.0% in September. However, with the pound around c.15% below its pre-Brexit level on a trade-weighted basis, it is likely that this will be the first of many price increases that could erode real incomes and spending power. Political factors are also expected to dampen near term growth prospects. Theresa May has finally announced a date in which Article 50 will be invoked (March 2017) but has also raised concerns that the UK government may follow a ‘hard Brexit’ arrangement, where access to the single market is potentially removed, allowing greater controls over UK’s borders. This will do little to raise confidence amongst UK businesses, and will act as a further dampener on business investment, hiring decisions, and Sterling in the short term.

UK Property Market Prospects

To date, commercial property market performance has been more influenced by investor sentiment than by market fundamentals. There was a marginal increase in All Property rental values (of 0.2% during quarter). In contrast, equivalent yields moved out 23bps to 6.3%, resulting in a capital decline of 3.6% for the three months to September.

We have revised our property market forecasts for the next five years. We have taken the view that the UK government will maintain access to the single market in the long run (either by paying into the EU budget for unfettered access to the single market, or through the eventual realisation that any other exit strategy would severely limit growth prospects causing the government to revert to a more tolerable arrangement). Under this scenario, we expect capital value declines of c.5%p.a for All Property in the short term, followed by a period of reasonable stability in capital values, as property’s attractive yield profile (relative to other asset classes), recent currency falls, and the UK’s safe haven status, make UK property an attractive asset class for institutions and a relatively cheaper investment for overseas investors.

As expected, central London offices is forecast to be the most susceptible sector (given its dependence on the financial service sector), with prime retail, industrials and other alternate sectors that offer longer dated, inflation-linked lease structures and favourable demand drivers retaining healthy levels of investor appetite over the next five years.