Commercial Market Outlook

• The UK’s economic performance has continued to be subdued. GDP contracted in January (-0.1%), and increased by only 0.2% in the three months to January. The Construction and Manufacturing Purchasing Managers Indices fell further into contraction territory in February, but the Services Purchasing Managers Index continued to report expansion, which accelerated during the month. Other positive indicators include February’s fall in CPI inflation from 3.0% to 2.8%, and a two-point rise in the GfK Consumer Confidence indicator (although it remains weak). The labour market also appears resilient, with unemployment holding steady and the number of pay-rolled employees rising modestly.

• Although the rate of inflation fell in February, this is likely to prove temporary, with CPI forecast to rise further above target in the coming months (and a probable peak of around 3.7% in Q3). Despite this, the need to stimulate economic growth and the expectation that inflation will be falling again by Q4 mean that further interest rate reductions remain likely this year. However, their timing and extent are very uncertain, with the latest consensus forecasts implying a base rate reduction of 50 to 75 basis points by Q4.

• Gilt yields fell a little following the Spring Statement, which saw the Chancellor restore the UK’s fiscal headroom to its level as at the autumn Budget, through a combination of welfare reform and departmental spending cuts. Nonetheless, the broader movement in gilt yields this year has remained upwards.

• UK economic growth faces the combined headwinds of tighter fiscal policy, the continued impact of previous interest rate rises, aggressive US trade policies, and ongoing geopolitical tensions. In addition, the impact of increased Employer's National Insurance Contributions on growth and inflation is weighing on the economic outlook. However, higher government consumption should help support activity, and continued real earnings growth and falling interest rates will provide impetus.

• The latest consensus forecast (March) is for below-trend UK economic growth of 1% for 2025. In its forecast for the Spring Statement, the OBR also now expects growth of 1% this year, revised down significantly from 2% in its previous October forecast (whilst also upwardly revising its growth forecasts for 2026 and subsequent years). The Bank of England expects even lower growth in 2025 of just 0.75%. Growth this year is therefore likely to be slightly below that achieved in 2024 (1.1%). 

Recent output trends and indicators

• Monthly GDP was estimated to have fallen by -0.1% in January, following growth of +0.4% in December. The largest decline came from production output which fell -0.9% compared with an increase in the services sector of +0.1% and construction output which fell -0.2%. In the three months to January GDP grew by 0.2%, largely driven by the services sector.

• S&P Global’s UK Manufacturing PMI for March was 44.9, the lowest reading in 17 months, down from 46.9 in February (a figure below 50 indicated contraction). Rates of contraction in output and new orders accelerated as a difficult operating environment persisted. Many firms reported that domestic market conditions are deteriorating, with costs rising due to changes in the national minimum wage and national insurance contributions. Geopolitical tensions and disruptions to global trade from tariffs were also a concern.

• The flash estimate of the S&P Global UK Services PMI rose sharply to 53.2 in March, from 51 in February. This marked the strongest growth since August 2024, driven by a rebound in both domestic and overseas sales. Service providers reported an increase in new work for the first time this year, with some noting a tentative improvement in demand conditions. Moreover, the pace of job shedding slowed considerably.

• The Construction sector PMI fell to its lowest level since May 2020 in February, with a figure of 44.6, down from 48.1 the previous month. Weak demand, high borrowing costs and a decline in new projects have all contributed. Residential building fell to its lowest level since 2009 with an index figure of 39.3, with civil engineering only slightly better at 39.5. Commercial construction declined to 49.0. 

Labour market

• In the three months to January the UK unemployment rate remained unchanged at 4.4%, according to the latest estimates from the Official Labour Force Survey. The employment figure rose slightly to 75.0%, up from 74.9% in the three months to December 2024.

• The number of pay-rolled employees increased by 21,000 during February, with a 66,000 increase over the year. The number of job vacancies (three months to February) was broadly unchanged over the quarter, totalling 816,000. Prior to this quarter the number of vacancies had declined for 31 consecutive quarters.

• Annual earnings growth (average, excluding bonuses) remained unchanged at 5.9% in the three months to January. The wholesaling, retail, hotels and restaurants sector saw the highest wage increases at 6.3%, followed by those in construction at 6.2%. On average, private sector wages grew by around 6.1% over the year while the public sector saw a 5.3% increase.

Inflation

• The Consumer Prices Index rose by 2.8% in the 12 months to February, according to the latest inflation statistics. This is down from 3.0% in January and although it is still above the Bank of England’s 2.0% target it is in line with their forecasts. The largest downward contribution came from women and children’s clothing together with recreation and culture.

• Core CPI (excluding volatile elements such as energy and food) was 3.5% in the 12 months to February, down from 3.7% in January. The CPI services annual rate was 5.0% in February, unchanged from January.

• All-items CPI is likely to rise further this year, with the Bank of England and OBR both now expecting a peak of 3.7% in Q3 2025. The latest consensus forecast (March) expects CPI of 3.1% as at Q4 this year (up from 2.8% in the February forecasts).

Interest rates

• Having reduced Bank Rate from 4.75% to 4.5% at its February meeting, the Bank of England Monetary Policy Committee (MPC) voted by a majority of 8–1 to maintain Bank Rate at 4.5% at its latest meeting on 20 March (one member preferred to reduce Bank Rate by 25 basis points).

• Further cuts to the base rate are likely this year. However, with inflation likely to accelerate, together with the prospect of further subdued economic growth and uncertainties of global trade tariffs, the Bank of England will need to perform a fine balancing act. This makes the speed and extent of further interest rate reductions particularly uncertain, with the latest consensus forecasts implying the most likely outcome is a base rate reduction of 50 to 75 basis points by Q4. The next MPC meeting on scheduled for 8 May.

Retail occupier market

• Retail sales volumes rose by more than expected at 1.7% in January, up from (a downwardly revised) -0.6% in December. Food store sales volumes rose by 5.6%, the largest rise since March 2020, following four consecutive falls on the month, with some commentators suggested more people were eating at home. Non-food stores declined by -1.3% over the month, with clothing and footwear falling -2.7% and auto fuel down -1.2%. On an annual basis, retail sales grew 1.0%.

• GfK’s monthly Consumer Confidence Index recorded a one-point rise in March, to -19. Of the five sub-measures, two were up on the month, two fell and one remained unchanged. In particular, views on personal finances over the last year declined to -9 while each of the General Economic Situation metrics (both forward and backward looking) rose two points. The Major Purchase measure remained at -17, although this is a marked increase from -27 in the same month last year.

• The Q4 2024 RICS UK Commercial Property Survey shows a net balance of -12% for retail occupier demand, down from -4% in Q3, although still well up on negative balances of well below -20% seen for much of the period since 2020.

• Following a sharp decline from 2018-2021, average retail rental values have increased modestly since 2022, according to MSCI. Average annual retail rental value growth was 1.7% in February, unchanged from January, but a significant acceleration compared with 0.6% a year ago, and the highest rate since 2008.

• The all-retail trend masks significant variation, depending on the type of property and location. Average rents for standard (high street) shops have been rising since May 2023, and increased at an annual rate of 1.2% in February 2025 (MSCI Monthly Index). Over the three months to February 2025 the increase was 0.3%, the equivalent of 1.1% over one year, broadly in line with the actual annual rate.

• Average rental value growth in the retail warehouse subsector has continued to accelerate, reaching 2.3% in the 12 months to February 2025, up from a recent low of 0.6% per annum in June 2023, although slightly below the recent peak of 2.4% in January this year. On a quarterly basis, growth stands at 0.9% (three months to February 2025), the annual equivalent of 3.7% (MSCI Monthly Index).

• The annual rate of average rental growth for UK shopping centres finally turned positive in January 2025, leaping to +1.0% from -0.3% in December, as sharp falls in rental values a year ago fell out of the annual comparison. The rate of growth accelerated further in February to 1.3%.

Office occupier market

• Most businesses have now passed the post-pandemic period of office floorspace downsizing, and some are actively adopting policies to encourage (or mandate) employees to return to the office. The provision of high-quality offices remains important to assist with recruitment, retention, and productivity strategies, as well as to enhance staff health & wellbeing. This is reflected in continued robust demand for prime space.

• Occupier demand is focused on buildings that are sustainable and energy efficient, as occupiers try to meet their ESG aspirations. This is being accelerated by the next round of tightening to MEES regulations, with a minimum EPC rating of C due to take effect from April 2027.

• In many key city centre markets, a constrained volume of office development since the pandemic relative to grade A demand means there is now a considerable shortage of prime supply. This is particularly true in central London districts such as Mayfair and St James’s, which have a long-standing undersupply due to their inbuilt physical and planning constraints. But even the core City of London, which is more able to accommodate large-scale high-rise schemes, is now running low on quality floor space.

• In addition to the shortfall of immediately available space, there are only limited options to lease buildings currently under construction. A high number of pre-lettings, in reaction to low immediately available stock, have taken much of the potentially available new supply out of the market. We have also seen an increasing number of developments geared towards the life sciences sector.

• We are seeing continued strong demand for serviced and co-working provision from established businesses that wish to lease short-term space, pending a move to longer-term conventional office space once the economic outlook becomes more certain.

• The Q4 2024 RICS UK Commercial Property Survey continues to show a positive net balance for office occupier demand at +3%, almost unchanged from the +4% in Q3, and slightly below the recent high of +7% in Q2. This suggests that demand has broadly stabilised at a robust level, in sharp contrast to the highly negative balances immediately post-pandemic. More broadly, demand remains heavily focused on prime stock, and on prime central London in particular.

• Prime rental levels have proved highly resilient, reflecting supply / demand imbalances for quality stock. Recent development schemes have set new benchmarks in several central London districts and regional city centre markets. The gap with rents for poorer quality grade B stock is likely to widen further.

• According to the MSCI Monthly Index, average annual rental value growth for all UK offices peaked 2.8% in March 2024, and has since fluctuated within a band between 2.1% and 2.5% per annum. The latest figure (February) is 2.3%.

• Average annual rental growth in the West End / Midtown submarket has decelerated a little from a peak of 6.7% in July 2024, but remains strong at 6.0% in February 2025. The City of London continues to see a much lower rate of growth, at 1.2% per annum in February, a figure that has fluctuated between 0.8% and 1.3% over the last six months (MSCI Monthly Index).

• The rest of the south east recorded average annual office rental growth of just 0.6% in February 2025, below a peak of 2.0% in January 2024. Average annual rental growth in the regional markets is somewhat stronger, accelerating to 2.6% in February 2025, the highest figure since June 2023 (MSCI Monthly Index).

Industrial occupier market

• 2024 saw a positive occupier demand story in the UK industrial and logistics sector, with take-up rising from the recent low seen in 2023. Demand is being shaped by a variety of economic, political and technological drivers, including requirements for logistics and last mile distribution hubs, with the gradual shift online likely to continue and further rises in real household income boosting consumer demand. Supply chains will continue to evolve, and we expect to see more retailers outsource logistics functions to 3PLs, who can use their expertise to reduce costs and delivery times, and increase reliability and sustainability credentials.

• Logistics operators continue to face a shortage of labour in many parts of the UK. Labour costs are increasing, with wages continuing to rise in real terms, plus April’s rise in the National Living Wage and employers' National Insurance contributions. The re-emergence of Amazon as an occupier taking large units will further compound the labour market pressures in certain areas.

• Occupier demand for larger distribution units has been somewhat subdued in recent quarters. However, demand for smaller size ranges has remained in line with longer term averages. Occupiers may now be looking ahead to lower interest rates, more sustained economic growth and an increase in consumer optimism. The Q4 2024 RICS UK Commercial Property Survey showed a net balance for industrial occupier demand of +7%, down from +14% in Q3. This is above the recent low of +3% in Q3 2023, although still well below the peak of +49% in Q2 2022.

• Vacancy rates have been rising over recent quarters, due to a combination of slowing demand and rising supply. However, vacancy at the national level now appears to be levelling off, and with a positive outlook for demand and relatively little speculative supply coming through, we think vacancy will peak this year and begin to decline. Demand remains focused on prime, energy-efficient space, particularly as many logistics operators are promoting their ability to maximise their clients’ sustainability credentials within the supply chain. Whilst new schemes are coming forward, the overall development pipeline remains restricted, and so the relative shortage of large high-quality units will continue.

• Competition amongst occupiers for existing and new build product has helped maintain upward pressure on rental values despite the overall lower demand levels. According to the MSCI Monthly Index, average annual industrial rental value growth has decelerated from an unsustainably high peak of 13.2% in summer 2022, to circa 5.5% over the last few months, still well above general inflation.

• The Q4 2024 RICS UK Commercial Property Survey reported a net balance of +55% expecting prime rents to rise over the next 12 months, a continued strong reading, and up from +48% in Q3.

Transaction volumes

• Investment in UK commercial property rebounded in Q4 2024 across all but one of the main sectors, with industrials seeing a notable contraction quarter-on-quarter. Overall, £12.3bn was traded in Q4 2024. This was 29% up quarter-on-quarter and 30% up year-on-year, but 6% below the five-year quarterly average. The rolling annual total exceeded £40bn for the first time since Q2 2023, but was 23% below the five-year average of £53.5bn.

• Similar to the previous quarter, approximately 33% of all investment (excluding multi-regional portfolio deals) occurred in the London market in Q4 2024, which is below the five-year average of 51%. Investors targeted offices but also operational real estate assets such as hotels. Overseas capital continued to support volumes in London, accounting for 54% of the total.

• The alternative sectors accounted for the largest share of the Q4 total at 39%, while both the alternative and retail sectors recorded volumes above the five-year quarterly average. Offices accounted for the second-highest share of the volume traded in Q4 at 24% of the total, with industrials accounting for 16%.

• Overseas investment in UK commercial property totalled £5.5bn in Q4 2024, up 21% quarter-on-quarter and 17% above the five-year quarterly average. It accounted for 45% of total investment, below the 10-year average of 51.9%. US investors continued to account for the highest share of overseas investment in Q4 2024, totalling around £3.4bn, notably above the £2.1bn spent in the previous quarter. European investors had another strong quarter, with just under £1bn invested and above the £800m spent in Q3 2024.

Recent investment performance

• Following a sustained period of upward movement from mid-2022 to the end of 2023, overall commercial property yields have been broadly flat during 2024 and into 2025 at circa 7.1% (all-property equivalent yield, MSCI Monthly Index). In contrast, 10-year gilt yields have been on a broadly rising trend since last September, with a brief spike in mid-January 2025 to 4.9% (caused by market concerns around US interest rates and UK growth and inflation). 10-year gilt yields were 4.5% as at the end of February 2025 and currently stand at 4.65% (1 April). These trends have resulted in a narrowing of the gap between property and gilt yields from circa 350 basis points at the start of 2024 to circa 260 basis points at the end of February 2025.

• Average all-property rental values have been rising consistently at a rate of over 3% per annum since February 2022, averaging 3.8% per annum over the last three years. The rate of growth stood at 3.5% per annum in February 2025 (MSCI Monthly Index). With the stabilisation of property yields, capital growth has performance improved rapidly. Year-on-year all-property capital value growth finally turned positive in December 2024, rising to +2.1% by February 2025, compared with a low of -21.2% in mid-2023. Growth over the three months to February stood at 1.0% (the annual equivalent of 3.9%).

• Capital growth performance varies considerably across the main commercial property sectors. Industrial and retail are outperforming the all-property average, with annual growth in February 2025 standing at 4.6% and 3.8% respectively. In contrast, office capital values are continuing to fall on an annual basis, at -3.9% over the 12 months to February 2025. However, capital value performance is improving across all three main commercial sectors.

• The all-property annual total return was in positive territory throughout 2024, accelerating to +8.1% by February 2025 (MSCI Monthly Index). The industrial annual total return is now +9.9%, compared with a low of -23.2% in June 2023. Retail annual returns turned positive in December 2023 and have increased significantly to +11.3% by February 2025, compared with a low of -9.6% in July 2023. The total return for offices turned positive in January 2025, reaching +1.5% in February, compared with a low of -18.9% in August 2023 (MSCI Monthly Index).

Investment outlook

• The uptick in market activity during Q4 2024 is a positive signal, although transaction volumes remain below longer-term averages. Investor sentiment in UK real estate remains strong, and we expect a continued improvement in market conditions as the year progresses, boosted by further interest rate reductions.

• That said, concerns remain around the risk of further stagnation in economic growth, largely as a consequence of the fiscal changes coming into effect this April, together with the likely rise of inflation further above target this year, and the potential impacts of the dramatic and unpredictable shifts in US trade policy on the UK and globally.

• The industrial and residential sectors remain the most favoured among investors, both domestic and international.

• Demand for regional offices is showing signs of increased activity, particularly in markets with strong occupier demand for assets that are well-located, possess robust ESG credentials, or are viable for conversion to alternative uses, especially residential.