RICS survey calls the bottom of the UK commercial real estate market as yields harden across sectors

Does improving sentiment from the RICS Global Commercial Property Monitor signal an early upturn for the UK real estate market? Patrick Scanlon, Senior Director of Market Analytics, CoStar, examines the evidence.

Having endured a challenging couple of years in the face of rampant inflation, rising interest rates and underwhelming economic growth, there are now signs that the UK commercial real estate market is perhaps close to turning a corner.

Over half of respondents to the Q4 2024 RICS UK Commercial Property Monitor believe that the UK real estate market has either reached the bottom of the current cycle or is in the early upswing stage of the next (Figure 1). This could mean that investment activity is set to strengthen, at least to some degree, in the not-too-distant future.

Exactly when the UK commercial property market might expect to accelerate into the upswing of the next cycle is difficult to predict, however. While many of those closely involved in UK real estate are confident that the market, particularly with regards to investment pricing, is unlikely to deteriorate, there is less consensus about what will provide the catalyst for growth and when that will occur.

However, data from CoStar (Figure 2) indicates that the upswing stage of the next market cycle may already be underway. Capital values were rising through the end of 2024, and the market yield for the office and industrial sectors has started to decline after spending much of last year at some of the highest levels since the global financial crisis. Average retail sector yields have been falling for over a year. The market yield consists of transactional observations alongside CoStar’s proprietary model.

Although the spread between UK office and industrial yields and ten-year bond yields is at one of its lowest levels this century, real estate yields have been falling, indicating that investors are regaining confidence in the long-term outlook for real estate.

Overall, respondents to the Q4 2024 RICS UK Commercial Property Monitor were more optimistic about prospects for the industrial sector than offices or retail. Respondents reported increased investment enquiries and a corresponding growth in capital value expectations for the industrial sector. The opposite was true for offices and retail, where enquiries were down, and expectations for capital growth were negative. There is a strong positive correlation between investment enquiries and investment volumes (see Figure 3), which may signal a slowdown in turnover for the first quarter of 2025.

According to CoStar data, market participants have reported the disparity between buyers’ and sellers’ pricing expectations as a significant factor in halting momentum in the investment market. However, there are early signs that pricing expectations are moving closer together. CoStar analysis of around 250 UK investment deals across all sectors over the last two years shows that the average discount to asking price has fallen from around 15% in the first half of 2023 to 7% in the second half of 2024.

CoStar’s forecast model suggests that further yield compression across the UK’s main sectors is likely as we move through 2025, although the outlook for capital value growth is more nuanced. CoStar modelling also suggests vacancies in the industrial sector are close to their cycle peak, supporting continued rental growth in an environment of hardening yields. However, the model also suggests office vacancies are unlikely to peak until mid-2026, the effect of which will be mildly negative rental growth, which will likely compress capital values in the short term.