Growth of commercial rents rises 2.2% in three months to February, reversing three-year slowdown

Rents in the UK commercial property sector have started rising for the first time in three years, according to research by the RICS.

Rental growth rose 2.2% in February, with the biggest growth recorded in the retail sector. In the office sector – the sub-set of the commercial sector that has been worst hit by the economic downturn – rents in the quarter to February 2005 flattened out for the first time since January 2002.

A rise in rents, which signals increased demand among occupiers for commercial space, would bolster the construction industry, which has been primarily reliant on public sector work over the past three years.

Milan Khatri, chief economist at the RICS, said that incentives to let buildings, including rent-free periods offered to tenants, had also decreased.

Khatri said: “Things are looking up for landlords. Incentives have begun to stabilise and, if anything, they have started to fall. In terms of the office sector, where the downturn in rents has been more marked, incentives have been coming off for the past couple of quarters.” This trend shows that rent rises are a true reflection of an improving commercial sector.

However, Khatri remained cautionary: “We are talking about modest rises in rents, but the key point is that they are no longer falling.”

Research by the DTI backed up the RICS’ findings this week, reporting that construction orders in the three months to February 2005 rose 1% compared with the previous three months. This was because of a rise in private commercial orders alone, as orders in all other sectors fell.

Despite this, Khatri warned that the high levels of vacant space in existing office buildings could continue to have a negative impact on rents.

The appetite for buying commercial property remained insatiable among investors in the three months to February, despite the slow rental recovery. Institutions, as opposed to private individuals and syndicates, remained the dominant investors and are expected to remain so in the rest of 2005.

According to the DTI, orders in the infrastructure sector rose 13% in the three months to February, compared with the same period last year, but fell 9% compared with the previous three months. This reflected the fact that the industry is expecting a decline in infrastructure work this year.

Public housing and housing association orders fell 6%. The RICS was gloomy about prospects for the housing market, describing buyer activity as “tepid”. Khatri said: “The prospects for incomes, employment and interest rates are likely to be the key issues for would-be buyers, rather than stamp duty relief.”

In 2004 overall, construction output rose 3.5%, but the rate of growth was down on the 5.1% increase in 2003. Growth last year was in line with the average rate since 2001, and above that of the past 10 years.

The RICS’ economic forecast

  • Decline in growth of consumer spending in response to potential increase in interest rates

  • Strong business investment because of improving global economy and strong balance sheets

  • Rise in UK employment levels, with high levels of job vacancies

  • Increase in interest rates in 2005 a real possibility