Both Irish and UK commercial property returns for 2003 exceeded those achieved by gilts but were inferior to equities, reversing the pattern of 2002, according to Investment Property Databank's (IPD) latest report.
With the recent volatility of the equity market, the property sector has come under renewed scrutiny as a potential haven for investment. However, often little is known of how property returns compare with those of other assets, and of what drives the property market.
IPD is a leading independent information specialist business, dedicated to performance measurement and market analysis for the commercial real estate industry. It has just released its results on Irish and UK property market performance for 2003.
While property is the top performing asset class in both the UK and Ireland over the last three, five and 10 years, over a 20-year history, the expected textbook one-two-three of equities-property-gilts holds.
Both the UK and Irish commercial property markets are dominated by the retail and office sectors, which accounted for a combined total of around 85 per cent of each market at the end of 2003.
However, whereas London accounts for only about a third of the UK commercial property market by value, over 90 per cent of Irish commercial property is located in Dublin.
Recent years have seen retail sector returns exceed those of the office sector. In both markets, retails performed better in 2003 because rents on offices fell and because greater demand for retail property pushed equivalent yields down - and capital values (prices) up.
For example, in Ireland, rents on the average retail property grew by 8.7 per cent in 2003, whereas office rents fell slightly. Meanwhile in the UK, retail rents increased by 3.7 per cent in 2003, while those on offices declined by over 10 per cent. This was largely a result of exceptionally poor performance by London offices dragging down the rest of the country - rents on central London offices declined by 15 per cent in 2003, despite having already fallen by 10 per cent in 2002.
There are divergent reasons behind this similar trend. "The Dublin office market has suffered both from supply-side stress, in the form of high levels of new development, and from a fall in demand, as the stumbling TNT sector has eroded the occupier base," said Dominic Smith, a researcher at IPD.
"In London, on the other hand, development has arguably been more restrained and has had less of a detrimental impact on rents. However, with the global economic slowdown severely affecting the investment banking and financial and business service sectors, demand has decreased rapidly, with many occupiers looking to sublet existing surplus space."
Paradoxically, despite weak occupier demand, investors have still looked favourably on offices - so keen were investors to buy central London offices in 2003 that equivalent yields fell by 52 basis points in 2003, increasing capital values by 7 per cent.
Similarly, while investors' enthusiasm for retail properties has driven up prices in the Irish and UK retail sectors, there are different causes behind this.
"In Ireland, the recent trend of declining retail yields has been driven by investor fever centering on the high street. But in the UK it has been the retail warehouse sector that has been the focus of attention," said Smith. "Over the last three years, high street shops in Ireland have delivered returns of over 20 per cent per year, more than double the 7.4 per cent per year achieved by out-of-town retail warehouses. However in the UK, retail warehouses have delivered the highest returns." Commenting on this, Smith remarked.
"This distinction is important - it highlights a key structural difference between the Irish and UK markets. In Ireland, as far as investors are concerned, the high street remains king. The equivalent yield on high street shops has fallen faster than that on retail warehouses, indicating investors continue to favour high street shops rather than larger retail warehouses.
"In the UK, however, retail warehouses have seen values soar: here, much stronger demand from major blue chip retailers for large out-of-town sites has seen investors compete fiercely to buy prime developments."
This rise in prices has not been entirely beneficial however, as institutional investors have found it difficult to enter the market with prices at their current levels.
Institutions were net sellers of direct property in Ireland and the UK in 2003. Disinvestment of £285 million and £2.5 billion in Ireland and the UK respectively was equivalent to 7.6 per cent and 2.4 per cent of mid-year portfolio value, and came as purchase activity fell sharply.
Institutions could not compete with debt-backed investors and overseas investors keen to secure prestigious assets in the UK. Meanwhile sales remained high as institutions took advantage of low yields to realise gains.
