2025 is being heralded by many as the start of an upswing for commercial property, coinciding with a gradual interest rate cut cycle. The UK is currently experiencing political stability, and the government's strong mandate is expected to drive its agenda, providing businesses with clear direction for planning ahead.
We spoke with James Routledge, Partner and Head of Investment, based at our London office, to understand why he believes short-term business confidence and the pace of recovery have been impacted by the government's own fiscal measures, such as increases in national insurance contributions and inheritance tax on the agriculture sector, ongoing geopolitical uncertainty, and economic fragility.
Long term inflation expectations are currently higher than before the UK autumn budget and re-election of President Trump, soon to be reinforced by a more protectionist US trade policy. This implies only a gradual reduction in interest rates of up to 25 basis points each quarter to early 2026, reaching around 3.75%. This compares to the current 5-year SONIA rate of 3.9% which has edged upwards in recent weeks.
Whilst 2024 was characterised by structural change, and a need to focus on “the right kind of asset”, 2025 is anticipated to be about “a new dawn”, addressing legacy issues and gradually returning capital to the property market.
Tough trading conditions will persist in parts of the commercial property investment market. If you were to plot predicted future growth on a graph, the shape would be more like a ‘K’ than a ‘V’. Some will be able to recover if their portfolio is made up of better performing assets. But for those who own more challenging assets, the road ahead will be rocky. Increased levels of activity will bring a moment of truth on pricing for secondary assets especially in the office sector, and lenders may be less patient than in the last two years.
Some of the wider considerations for 2025 include:
- UK inflation to hover around the November CPI annual index of 2.3%
- Fluctuating bond yields (10-year UK gilts currently circa 4.5% versus circa 3.6% in December 2023 and around 1% at the start of 2022)
- UK economic performance in the balance, with higher taxes and interest rates weighing on growth, set against Government’s 10-year plan to deliver stability and investment in growth sectors
- A strong year for equities markets (the FTSE all share index was up 5.6% and S&P 500 up 23.8% over 2024) will leave global investors under invested in property, unless the US equities bubble bursts
- An ongoing decline in real disposable income for UK households, and low consumer confidence
- Potential sidelining of climate change issues
- The Eurozone’s struggle with political and economic uncertainties
- Government’s housebuilding targets, whilst ambitious, will likely not be achieved due to a mountain of practical challenges to reform the planning system
- Oil price volatility (the result of conflicts in the Middle East & OPEC cutting production)
- Trump’s tariffs and protectionism strategies, and China’s attempts to counter these policies
- H1 2025 to be defined by ongoing investor and business caution, with a clearer vision of domestic and global outlook providing a catalyst for decision making by H2 2025.
Property Market Backdrop
The rebasing of existing investment and land values should provide entry points to the market, at a time of yield stabilisation and robust occupier outlook in most sectors. However, momentum is currently stalled, and we can expect measured decision making rather than dramatic positive bursts of investor enthusiasm.
Increased interest in the UK is anticipated from overseas investors of varying types; aiming to take their money out of volatile markets and invest into what is seen as an established property market.
Industrial and living sectors will remain top of many “buy lists” as traditionally constructed portfolios continue to shift away from offices, while the retail sector overall bottoms out and buyers clamber for service-led clusters, especially retail warehousing.
Operational sectors, mostly within the living sectors such as student, build-to-rent and single-family housing are sufficiently mature to attract larger institutional capital. Specialist uses classified as critical national infrastructure, or driven by AI such as data centres, will also be high on the lists of larger investor groups.
The Outlook for Commercial Property in 2025
- Purchaser interest will be driven by a reduction in gilt yields and interest rates, which may stay higher than anticipated just a few months ago, and the banking appetite for risk.
- Relatively low levels of investment activity should switch to a greater trading volumes in the second half of 2025, after an initial six months of business caution.
- Based on the November 2024 IPF consensus, all-property total return forecasts over 2024-28 is 7.6% per annum, implying that income will be the main driver. With a running yield of 5% to 6%, the upside element is driven by rental growth with yields are largely flat.
- A combination of asset quality polarisation and supply barriers due to project viability will continue to drive rentals for prime accommodation but crystalise the challenges of stranded assets.
- Increasing levels of obsolescence will continue to provide opportunities for active managers with repositioning agendas, although repurposing of assets can be tricky as some assets will become obsolete.
- For owners facing debt refinancing, a double whammy of lower capital values and relatively high bank borrowing costs will lead to funding gaps and capital injection requirements, shaking out some distressed sales.
- Specialist UK operating platforms and asset managers will compete to raise equity, whilst institutional-style managers of historically balanced portfolios will struggle to demonstrate the same level of skills to execute asset management initiatives.
- Net zero and de-carbonisation considerations will continue to grow in importance, with institutional investors focused on purchasing assets with EPC ratings of A or B among other sustainability criteria.
Offices - Quality comes first
Overall office capital values could have further to fall, especially as large structural changes in demand can take many years to be fully reflected in commercial property values, partly due to long leases.
Despite the clear challenges, the office market is of growing interest for investors and developers, due to the significant yield rebasing across core, core plus, and value-add opportunities. This should result in highly polarised returns within the sector, providing strong upside for assets with strong ESG credentials in supply-constrained core markets such as London’s Mayfair & St James’s submarkets.
Constrained development pipelines, coupled with a ‘flight to quality’ especially in major cities are leading to rental growth for Grade A assets, with demand likely to exceed supply in some markets. A shrinking pipeline of Grade A stock should push demand towards more affordable Grade B space in attractive locations, amidst companies seeking to meet employees’ expectations & their own productivity goals.
Industrial and Logistics - reposition overtakes development
Whilst still a top investment buy and expected to deliver an all-property average total return, the occupier markets are experiencing a cooling of occupier demand across most parts of the sector, with take-up levels reverting to pre-pandemic levels. As leasing demand softens, the rate of rental growth will slow but is currently forecasted to stay positive.
However, constrained supply and competing uses in larger urban areas and where good levels of power is available, with an interplay between trade, self-storage, data centres and residential driving pockets of growth.
Retail - structural change brings winning locations & players
A sense of positivity is returning to the retail sector. However, following significant falls in rentals and capital values over recent years, the market will remain polarised. The definition of prime pitches has tightened, whilst tertiary locations are facing greater challenges with falling rents and higher vacancy levels.
The relatively small lot sizes of standard high street retail assets should attract strong ongoing interest from private investors who are eying income returns, off rebased rental levels, that are higher than can be attained from other sectors.
The switch to electric vehicles will continue to accelerate and help consolidate retail warehousing, as well as create EV charging hubs incorporating food & beverage offerings with a strong interplay with last mile / urban industrial.
Living Markets – price discovery is around the corner
Alongside industrials, multi-occupancy residential blocks, single-family homes and student blocks will probably be the most active areas for investment equity raising in 2025.
The adverse impact of high interest rates and construction costs on the viability of development schemes has been compounded by fire safety and new building regulations coming into effect, forcing renegotiation of land prices. A potential silver lining for 2025, presuming skills shortages can be overcome, could be falling construction costs at a time of reduced development activity, potentially improving the forward funding investment market.
Development and planning – all change
Challenges around project viability and mothballing of sites in all sectors are already well documented.
Add to this mix a ‘retro-first’ approach from City of Westminster Council, focusing on retaining, upgrading, and repurposing existing buildings, with an increasing need to present all the potential options for a site, raising the bar for demolition to be considered. Managing embedded carbon is a growing issue in the UK & Europe (legislation ‘Energy Performance of Buildings Directive (EPED was passed), which could become an interesting priority in urban areas.
The above is balanced by Angela Rayner’s championing of new development aided by substantial reforms to the NPPF, especially in the residential sector, on the basis of more homes, not explicitly more ‘greener’ homes.
Whilst 2025 will be unpredictable, the UK commercial property markets are broadly re-priced and look relatively attractive in a global context, providing a platform for increased transaction volumes.
There will also be opportunities, and necessity, for asset repositioning, with unique challenges remaining through regional and sector variations. As ever, we continue to monitor market developments and provide professional advice to guide clients through these changing times.
