Martin said that a reduction in yields is now being superseded by rental growth as the main driver of commercial property capital growth.
According to LGIM, commercial property prices have risen nearly 20% since the start of 2014 and market yields have fallen. Yields are now consistent with the level they would see them at once central bank interest rates have normalised and without the expectation of above average rental growth. This puts the focus of return generation on yield and rental growth, in LGIM’s view.
“Commercial property rents are rising, buoyed by stronger tenant demand and a shrinking supply of space,” said Martin. “This is taking over from yield compression as the key source of capital growth. Recently, there has been a progressive improvement in the volume of space being leased by companies. While this has not permeated the whole market equally, with the retail property sector lagging on a relative basis, there has been a significant improvement in overall demand.”
“We view the recent moderation in transactional activity as a positive, as it reduces the potential for momentum to propel the market into overvaluation and eventual correction,” Martin added.