London office net effective rents have edged up, as landlords across the capital continue to reduce net free incentives.
Rents across the central London office market were virtually unchanged over the 12 last months, according to analysis from Carter Jonas – rising by just 0.2% on average, driven by the Mayfair and St James’s submarkets.
The firm’s Q3 Central London Net Effective Rents Monitor tracked headline rents and the length of rent-free periods across 22 submarkets of the capital this quarter. Despite largely flat prime headline rents, the declining value of incentives has led to an increase in net effective rents for prime grade-A space.
On average, net effective rents have edged up across the quarter by 0.1% (10-year lease) and 0.2% (five-year lease), compared with a 6% fall assuming a 10-year lease from peak to trough following the start of the pandemic and by 8% assuming a 5-year lease.
The driving force has been “an extremely low level of grade-A supply across almost all floor sizes” in the West End, particularly in the Mayfair and St James’s submarkets, but also in submarkets including Marylebone, Fitzrovia, Soho, Bloomsbury, and Covent Garden, the report said.
It added: “This has resulted in a reduction in rent-free incentives across much of the western part of central London over recent quarters, a trend which has continued in Q3.
“The continued reduction in typical rent-free periods has resulted in a fall in the prime net effective rent for the West End of 1% during Q3 2022 and a fall of 5.1% over the 12 months to Q3 (assuming a five-year lease). This takes prime net effective rents for five-year leases in the West End to 1% above their pre-pandemic peak.”
Net effective rents in London are continuing to edge closer to pre-pandemic levels. Since mid-2021, gradually decreasing rent free incentives have triggered a recovery of net effective rents, which are now only 3.0% below pre-pandemic level (10-year lease) and 2.8% below (five-year lease). In contrast, the overall central London prime headline rent fell by 1% from peak to trough following the start of the pandemic.
Not all submarkets fared equally. Along with the West End, Midtown has also seen a shortage of quality supply. Gently falling rent-free incentives of one to two months have resulted in an increase in the prime net effective rent by 3% over the 12 months to Q3 2022, assuming a five-year lease. However, there was no change during Q3 2022.
Headline rents in the City of London, which has a greater supply of high-quality space than locations further west, have also been broadly static over the last year. Rent free periods have been reducing and the headline rents on the upper floors of best-in-class tower buildings have been reaching record highs.
While the overall prime net effective rent in the City is 2% higher than a year ago, there was little change – indeed it fell slightly by 0.1%, during Q3 2022 (assuming a five-year lease).
But Carter Jonas said: “This recent fall in incentives is now starting to reverse in the wake of less favourable economic conditions and greater caution by occupiers.”
Carter Jonas now expects to see “a continued differential in rental performance between the main submarkets, with continued upward rental pressure in the West End, where grade-A supply is extremely low, broadly reducing eastwards, with the market tipping more in favour of occupiers in the City of London, and Docklands/East London seeing the lowest supply/demand pressures.”
The agency added: “The choice of grade-A space available to occupiers will only reduce further, given the low level of development. The rate of construction is unlikely to accelerate, given the current economic uncertainties and elevated building costs and the two-to-three-year time lag from inception to completion. Whilst the current economic uncertainties will mean weaker demand over the next few quarters, low supply will quickly fuel further rental growth once demand starts to recover.”
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