After a difficult year for the global economy, is the turning point drawing close?
Twelve months ago, many in the property industry were concerned about an approaching downturn for the global economy. Sadly, those fears about 2019 proved to be justified. China and the US engaged in a trade war, Brexit weighed on the UK economy, while sluggish growth led to the eurozone restarting its quantitative easing (QE) programme. Some of the cities we think of as the crown jewels of the global economy, such as Paris and Hong Kong, have been rocked by civil disorder. As eyes now turn to 2020, the question arises: how close are we to the start of the next economic cycle? I suspect it may be close.
Undoubtedly, we finished 2019 with the global economy and the property market in the midst of a slowdown. On the campaign trail in 2016, Donald Trump had promised that as president he would boost US GDP growth as high as 6.0% a year. Yet by Q3 2019 growth had slipped below 2.0% on an annualised basis, and the Federal Reserve has been cutting interest rates. Meanwhile, UK GDP in 2019 failed to achieve levels typically seen prior to the vote to leave the EU, and in Q3 it fell to its lowest since 2010.
The impact of the economic slowdown has inevitably filtered through to the real estate market. Figures from Real Capital Analytics show that commercial property sales between January and September 2019 were down in China, Germany, Japan and the US, compared with the equivalent period in 2018. According to BNP Paribas Real Estate, £33.4bn of commercial property deals were transacted in the UK in the first nine months of 2019, a fall of 26% from a year earlier. The latest RICS survey of UK commercial agents found that 62% view the market as being in a downturn.
So far so bleak. However, there is an old saying in the property world that ‘the turning point is always either six months away, or six months ago’. Investors on re-entering the market after a downturn tend to find it suddenly crowded with rivals also seeking assets – everyone regretful at not buying six months earlier when there was no competition. Often the moment when the market figures make the darkest reading is the time to buy.
Is there reason to suppose that one of those unanticipated turning points is at hand? I think so. For starters, I see grounds for optimism on the global economy. Much of the economic slowdown has been not cyclical but political in nature. The trade war has been driven by President Trump pursuing his political agenda, and its impact has reverberated around the world. Germany’s current economic travails stem in part from the US-China confrontation. Critically, 2020 is an election year in the US, and consequently I suspect the White House will want to reach a settlement on the trade war by the spring. This increases the chances that the US economy will be gaining momentum by November 2020, when the election is held.
Similarly, in the UK there is growing talk of Brexit fatigue, which is building up pressure on Westminster politicians to find a solution sooner rather than later. The second stage of the Brexit negotiations, focusing on trade, will seem less bleak from a UK perspective as concurrent talks can be held with other nations, such as the US. So it will feel less like the EU is Britain’s only option. I see this improving confidence in the outlook for the UK.
We have also seen a number of major economies, including the eurozone, US and the UK, report recent GDP figures that were slow but nevertheless ahead of forecasts. This shows our expectations of the severity of the slowdown are in fact worse than the reality. In part, we are seeing growth beat expectations because the number of people in work remains high. In the UK, unemployment stands at 3.8%; for Germany the figure is 3.1%, and for the US 3.6%. More people in jobs means the economy is in a strong position to move quickly into a recovery when the political gloom lifts, as fewer individuals need to rebuild their savings and settle debts after a spell of unemployment.
Moreover, one thing that tends to drive economic recovery is that yields on the ultimate safe-haven investment – government bonds for the best-financed nations – become so low that investors seek higher returns elsewhere. The German ten-year bond yield is currently around -0.3%, versus a CPI inflation rate of 1.0%. The UK ten-year bond yield is 0.7%, versus inflation of 1.5%.
Once the political gloom lifts, I see investors looking for higher yields. Commercial property should be in a strong position to benefit from this, for three reasons. First, property yields look huge in comparison with bonds. For offices in the City of London, yields are 4.25% for the prime pitch around the Bank of England, according to Colliers. This rises to 4.75% in the northern City of London tech belt, where firms such as Amazon are based.
Second, many investors are looking for new ways to gain exposure to the digital revolution that is unfolding around us. Property offers an indirect route by acquiring the business space occupied by tech firms. Remember, throughout the Brexit gloom of the last two years, the tech sector has been the star performer in the UK GDP figures.
Third, the political and economic gloom has deterred construction starts, and consequently leasing supply is being squeezed, particularly for offices. CBRE estimates that just 4.0% of central London offices were vacant in September 2019, a surprisingly low figure. Reduced supply will push up rents, making office yields more attractive.
If 2019 was a year for property investors to be on the sidelines with cash in the bank, I see 2020 as a year for getting active in the market.
