Are office rents too low?

Since doing some work on European and US office rents quite a while back, I’ve been confidently assuring people that in many mature markets office rents have not grown in real terms for the last 25 years. I tend to quote the example of Reading. When I arrived there as a student in 1988, the former Prudential building on King’s Road was the newest development and had let at £30 psf. In 2015, rents for prime office space in Reading may have edged slightly above that or, given the greater prevalence of lease inducements, may effectively be below that level. If rents had matched inflation, they’d have more than doubled. Recently I’ve become a bit worried that I might be wrong about this and decided to do a rough and ready check for the same period for some other (rather randomly selected) markets. So, for the period 1988-2013, annual nominal rental growth rates look broadly like this:

Market Nominal Rental Growth
London West End 1.8%
London City -0.2%
Edinburgh 2.8%
Cardiff 1.0%
Stockholm 2.4%
Madrid 0.6%
Amsterdam 3.8%
Dublin 4.3%
Frankfurt 1.2%
Brussels 1.9%

Obviously, the various countries have experienced different inflation histories over the period and rents have been quite volatile. The average nominal rate of rental growth is 2% per annum. It’s pretty clear that City of London office rents (also one of the major destinations of global capital flows to real estate) have experienced major falls in real terms. There’s quite a lot of variation and the choice of starting year is important – 1988-1990 was the top of the cycle in many western office markets. Whatever, very few markets have experienced any rental growth in real terms over the last 25 years and many have experienced falls in real terms. I also suspect that the same is true of many US office markets as well. It’s also worth bearing in mind that this is the rate of rental growth for a hypothetical, always brand new, office asset. So, it doesn’t factor in depreciation either. Data for other sectors is thinner. For the same period, nominal rental growth per annum in retail was in London West End – 3.6%, Cardiff – 2.7%, Stockholm – 6.2%, Amsterdam – 5.4%; Frankfurt – 3.2% and Brussels – 2.3%. On average, that’s double the rate of office rental growth.   If you’re interested – and most younger real estate academics moving to Reading tend to be – in 1988 two-bedroomed terraced houses in east Reading were selling at £80,000. In 1992, prices had fallen to around £45,000. In 2015, they are selling for about £240,000. That’s around 4.5% nominal growth per annum over the period 1988-2014.

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