UK investment volumes fell by 45% in Q3, according to the latest figures from MSCI, with just €8.9bn (£7.8bn) of property traded.
It was the second worst quarter on record for the number of properties sold.
So far this year, deal activity in the UK is down by 49% to €32.5bn.
Across Europe, commercial real estate registered its seventh consecutive quarter of declining investment. The volume of completed transactions fell by 57% in the third quarter from a year earlier to €32.8bn. It was the weakest activity since 2010 and took overall investment in the first nine months of the year to €119bn, less than half the level for the same period in 2022.
Pending transactions at the start of October, typically a reliable indicator of sales in the final quarter of the year, were the lowest since 2011.
Tom Leahy, head of EMEA real assets research at MSCI, said: “The exceptionally rapid increase in interest rates meant that property went from keenly priced at the end of 2021 to overpriced by the end of 2022. Low liquidity and volatility in bond markets have complicated the price discovery process for property, causing a wide disconnect in expectations of buyers and sellers, with negative consequences for transaction activity.”
Paris remained the year’s top European investment destination as large transactions, such as luxury retailer Hermès’ €230m forward purchase of the Anjou office block from Covivio in the third quarter, limited the decline in investment volumes to 21% in the first nine months.
There were some areas of relative resilience amid the general slowdown for Europe’s commercial real estate investment market.
Sales of warehouses and senior housing in the first nine months of 2023 settled around the average volumes recorded in pre-pandemic period of 2015-2019. Hotels were the least badly affected real estate sector, down by 11% in the first nine months from a year earlier, following notable transactions in the French, Portuguese and Spanish markets as leisure travel rebounded.
For the office sector, there was no respite, however, as the post-Covid shift to hybrid working continued to weigh on investor sentiment. The third quarter marked a record low in terms of the number of properties sold amid concerns about functional and technical obsolescence for buildings that are not best-in-class.
While a wide pricing expectations gap featured across all real estate sectors, the specific uncertainties weighing on the office sector amplified this mismatch in Europe’s largest markets. This differential stood at -36% in Germany’s A cities, -28% for central London and -22% for Paris, far worse than during 2009 at the height of the global financial crisis. It underscores the extent to which would-be sellers need to further reduce reserve prices beyond the correction that has already taken place.
Transaction yields were at a five-year high at the end of September in the major German cities and Paris, while in central London they were back to levels last seen in 2012-2013.
Office prices in the UK and Germany would need to fall by another 13%-15% to bring market liquidity back to its long-run average, data generated by the MSCI Price Expectations Gap model shows.
Distress to date is not widespread, said MSCI, with historical data showing that there is a lag of several years between the peak of a crisis and a pick-up in the number of distress sales.
“Distress is often what breaks the liquidity logjam by bringing price discovery, but at the moment we are still some way off from that being widespread,” said Leahy. Germany is very much in focus as the number of properties in a distress situation has climbed to the highest in years. How this pans out will be determined by the behaviour of lenders in the months ahead.”
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