Real Estate roundtable: what lies ahead for 2024?

In March we met with business leaders from the real estate sector to discuss the challenges faced in the industry. Leading the discussion was Phil Eckersley, a former agent for the Bank of England, and our real estate experts: Anne Dwyer, Jennifer Williamson, Jo White and John Walsham.  

Topics that were at the forefront of conversations were the future of the office environment and the wider impact on real estate, recent and upcoming changes in government, as well as interest rates. 

Interest rates

Interest rates have stabilised since Autumn 2023, but there has been plenty of speculation about when they would settle again. Markets were predicting interest rate reductions before the end of the year, however there are still a number of uncertainties in the data, and more are likely to emerge over the next six months. 

The group of experts discussed the performance of the economy and how it has a wider influence on interest rates and that the course of the economy can change very quickly. The short-lived Truss government was a classic example of that and will undoubtedly be examined by economists for decades to come. 

Participants of the roundtable were reminded that the changes to interest rates on the real estate sector and the wider economy are significant, especially since property accounts for some 40% of the stock of all bank lending. The tightening and or loosening of monetary policy can create instability in the system, especially for Propcos that are highly leveraged. 

The Bank of England keeps a close watch on the challenges faced in the real estate sector. Some of the recent issues highlighted are the push towards hybrid working and the impact that it has on the office market, the continued trend towards online retail, the cost of decarbonising real estate portfolios, as well as the appetite of funders.  

The Bank of England will also continue to keep a watchful eye on the macroeconomic environment and it’s destabilising effect on the real estate environment. The heightened uncertainty of the sector raises the lending risk premium, which leads to higher funding margins. Lenders will of course defend high rates, arguing that they are correct in reflecting the increased risk, but borrowers are likely to question whether economic conditions were right for even higher borrowing costs. 

In order to facilitate a landscape that allows corporates to plan a long-term financial strategy and encourage business investment, it was agreed at the roundtable that a stable interest rate environment is critical and could determine the country’s future path to growth. 

Change of government

As we all know, a change in government is almost certain, however, little is known about Labour’s position on the real estate sector. It was broadly agreed that little is likely to change initially, however, depending on the outcome of the General Election, the first Budget following the new government will be one to be watched closely. 

The experts agreed that in times of uncertainty, businesses prefer to stick with what they know. Change can be unsettling to many and periods of certainty – otherwise known as time of “boring” politics – can help to promote longer-term strategic planning. It was thought, amongst the group, that a new Labour government would want to grow corporate Britain. 

However, markets are notoriously fickle and how they respond to a new Labour government – given the party’s historically high tax and spending plans – is unpredictable, especially since Kier Starmer states that he has no intention of raising taxes. Changes to employment laws may also have a bearing on employment intentions moving forward into a new administration. 

Medium term growth prospects and rebalancing

There are a number of major challenges facing any new regime. First of which will be to get the economy expanding again after a prolonged post-COVID period of slow growth. As part of broader supply-side reforms, the new government will also have to consider the need to rebalance the economy. This will involve a move away from the dependence on import and consumption, which has for many years outstripped output, in favour of UK production. The dependence on consumption has led to a rise in household debt, making consumers more vulnerable to increases in interest rates. Any new government also has to consider how markets may react to changes to fiscal policy. 

The post financial crash era has been characterised by weak productivity growth in most economies, particularly in the UK. This phenomenon has vexed politicians and economists and will likely continue to have such effect as there is no obvious or simple explanation. There are likely to be a number of factors at play, those covered by the experts were: a lack of investment in capital equipment and in research and development; an under-achieving education system; low participation rates in the labour market; and an economy too dependent on low value jobs. A theme recognised by the group was that when times are unpredictable, there is a reluctance to commit money – either for employment or investment. 

The future of work

The real estate landscape, particularly office and retail, has changed dramatically, and there is understandably considerable caution in the market. The traditional 25-year lease has long gone, Phil explained, continuing that one would be lucky to get a 10-year lease now, and more common are leases between 18-24 months. 

Indeed, there has been strong growth in the supply of serviced offices. Serviced offices are enormously popular with occupiers and landlords, but funding challenges remain. Banks and insurers see short-term license agreements as inherently risky, and more comfortable lending against the security of a 25-year lease. In many instances they were not willing to consider the advantages of short-term lettings, i.e. landlords no longer need to offer rent-free periods to attract occupiers and can receive rental income from day one, and the market was more fluid, able to respond to demanding conditions. It was agreed by the group, that there will be a time when banks may have to embrace serviced offices through force majeure and lend in a way more reflective of client needs and market developments. 

The impact of hybrid working is felt beyond the office market. It was increasingly becoming a recruitment tool with candidates often asking employers about their flexible working arrangements in interviews. 

The retail sector has been through a seismic change since the introduction of online trading. There have been large distributional effects with notable winner and losers on the ever-changing high street. Some elements of suburban retail have befitted from this shift. However, city centre retailing is currently moving towards a brand experience strategy, showcasing products that are often only available online. It has, however, been recognised that retail has always ebbed and flowed. 

Traditional office landlords are increasingly looking at non-traditional ways of repurposing unlet buildings. Serviced offices are an obvious shift, with others looking to take advantage of permitted development rights to convert into residential units. 

There are, however, some obvious challenges in converting office space into high-quality residential homes. Studio and one-bedroom apartments are falling out of favour post-covid with buyers wanting an extra bedroom or dedicated work-from-home space. Co-living and houses of multiple occupancy may be part of the answer, albeit looking to create a very different offer to the down-at-heel image many have. 

It was also recognised that office landlords play a critical role in encouraging people back into the office by creating an environment that workers want to return to, since where and the way that we work will have a profound change on productivity. The in-person discussions that improve the way a business works and the learning-on-the-job interactions with colleagues are typically missing when people work from home, encouraging people to return to the office.  

The need to embrace many of these dynamics rests partly on the shoulders of the real estate sector in the form of creativity and innovation, and in what many still consider a very traditional industry. It will continue to shape the way we work, play and live for decades to come. 

If you’d like to discuss anything in this this article, please contact our team.