ANALYSIS: Is the commercial property sector bombed out?

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The popular conception is that commercial is a write-off, but the reality is somewhat different, and as always in crises, investment opportunities are created

Along with the rest of the stock market, the share prices of commercial-property companies collapsed in March 2020. The realisation that COVID was far more than a bad flu epidemic hit the property industry like a hammer blow, especially as the full impact of the lock-down kicked in.

Notwithstanding the already declining retail sector along with the British high street and the accelerated growth of online and home deliveries, the impact of the pandemic has been devastating for much of the commercial property sector.

With rent arrears and late payments across the board in retail and leisure, there has been a dramatic knock-on effect on valuations. Home working and transport restrictions have had an equally dramatic impact on offices.

Boom sectors

However, it’s not been all bad news. Warehousing, supermarkets, and property that’s housing essential services such as medical have fared far better or even improved.

Although student accommodation and retail parks have taken what is hoped is a short-term hit, pandemic recovery is likely to correct this, but it’s unlikely to help the structural long-term decline in much of retail, and especially many shopping centres. 

The Investment Property Forum (IPF) reports that the overall impact of the pandemic on the return from commercial property in 2020 was on average merely a negative of 1%. This is made up of minus 5% on capital return, and minus 4% of income. Those sectors in decline have been largely balanced by those that have benefited, or at least remained steady.

Shopping centre nosedive

Whilst shopping centres have lost almost a quarter of their values on average, year-to-date, industrial properties in general appreciated by around 4%. Office values have declined by just 2%, this despite many of them being empty for most of last year.

IPF’s consensus forecast for 2021 predicts a modest improvement, with the industrial sector and warehousing continuing to do well, retail still in relative decline, but overall a modest across the commercial property sector rebound in 2022.

For those willing to take a long-term view, whether investing in commercial property directly, or through a fund, the crisis has probably created plenty of good value in the sector.

Charlie Ellingworth (pictured), a partner at Property Vision, a property-investment adviser, told Money Week: “This is no time to leave your capital on furlough. Though the dynamics of the sector are changing, commercial property remains an attractive asset class with yields averaging 5.2%, while interest rates are negligible”.

Mr Ellingworth pointed out that retail will still account for a third of the commercial property sector, despite an overall decline for over a decade – the result of over expansion in the 1990s and 2000s.

According to Savills the retail sector is “over spaced by 40%” due to the growth of online shopping, which is here to stay. There’s one hell of a lot of surplus retail space ripe to be repurposed. This is also where the opportunities exist for the small-scale investor.

Disused shops

Many town centres will have to go through major change if they are to remove the depressing appearance of boarded-up and deteriorating shop fronts. Conversion to residential has long been seen as the way out of the problem and it’s hard to see any alternative.

To this end the government wants to add impetus: changes to planning laws are now permitting a much more flexible change of commercial uses regime, from the conversion of closed shops to hotels and leisure uses, to the provision of town centre residential accommodations such as town houses and flats.

It’s harder to see an answer for many of the smaller shopping centres scattered across the land: an indication of the problem is given by the share price of specialist shopping centre owners Hammerson, once a member of the FTSE-100. The price has tanked by 99% since mid-2017.

Home working impact

The pandemic is bound to have some impact on offices. But this could be more in the way of deferred demand as opposed to long term decline, but the debate is still raging.

“Offices won’t die,” says Mr Ellingworth. “They’re simply too important for social interaction, collaboration and creativity.” Occupational density will likely fall, upgrading and improvements will need to be accelerated, for example separating open plan and providing whole building ventilation systems in large offices, but smaller offices will probably come into their own.

Office supply has already been in decline over recent years as more offices are helped by the relaxation in the planning rules, being converted to residential use. This will to some extent support city centre office values in the future.

Read more about commercial property.

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