The long view of property - Capital Economics
UK Commercial Property

The long view of property

UK Commercial Property Update
Written by Andrew Burrell
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In light of our latest long-term economic and financial market forecasts, we have revisited our views for commercial property performance over the next three decades. We think that average returns will be lower than in the recent past, but that property will still be attractive relative to other financial assets.

  • In light of our latest long-term economic and financial market forecasts, we have revisited our views for commercial property performance over the next three decades. We think that average returns will be lower than in the recent past, but that property will still be attractive relative to other financial assets.
  • We recently launched a new long-term forecasting service, The Long Run, which extends our economic views through to 2050. (See here and here.) As part of this work, we have considered the outlook for commercial property and this note outlines our projections for the asset class over the next 30 years.
  • Our Long Run Asset Allocation Outlook compares the performance of a range of investments, including property. The broad view is that, despite returns being lower than in the 2010s, risky assets like equities and real estate (proxied by REITs) will continue to do well over the next 10 years. (See Chart 1.)
  • Admittedly, there are concerns about current stock market valuations, but relative to bonds these seem sustainable. Similarly, for property, while yields in some sectors are still near to historic lows, we think the asset class will offer decent returns relative to bonds – at about 6% p.a. on average globally – given the drift upward in inflation and interest rates expected over the next decade. (See Chart 2.)
  • It is tempting to see post-virus structural change as the reason for this step down in property performance and this will certainly be a factor in differences across commercial sectors. But our latest global forecasts are not much different from what we were expecting pre-virus. A year ago, we saw somewhat better rental prospects in the 2020s, but also more limited yield rises, so returns were broadly similar.
  • Looking further ahead, nominal returns are expected to stay close to 6% p.a., though with a slight shift in their composition. By the late 2020s, rising bond yields are expected to bring higher property yields, which continue to edge up over the forecast. This negative yield shift weighs on capital value growth from 2030, but is offset by higher income returns, so total property returns are little changed. (See again Chart 2.)
  • There is, of course, huge uncertainty in projecting over this horizon and we would point to two particular risks. First is that interest rates could rise more slowly than we expect. By providing scope for further falls in property yields, this would improve returns, though given that bond rates cannot go much lower, unless this were sustained indefinitely, any benefits are likely to be at least partly reversed at some point in future.
  • A second risk is that we are too pessimistic about rental growth. We use real GDP to forecast rents, not inflation, as historic relationships are stronger. But some argue that there is inflation protection in rents due to indexation. If so, property could perform slightly better longer term, as global inflation rises.
  • So, while property performance is expected to be weaker in absolute terms over a 30-year horizon, it should still hold its attractions for investors, maintaining its historic long-term returns ranking between bonds (lower) and equities (higher). (See again Chart 1.)

Chart 1: Average Annual Returns (US Dollars, %)

Chart 2: Drivers of Global All-Property Total Returns (%)

Sources: MSCI, Refinitiv, Bloomberg, Capital Economics

Sources: MSCI, Capital Economics


Andrew Burrell, Chief Property Economist, andrew.burrell@capitaleconomics.com