FULL REPORT
The release of GDP growth figures reveal the true extent of the full lockdown on the UK economy. The numbers confirm the economy shrank by 2.2% in the first quarter of this year - the largest fall since the third quarter of 1979.
All sectors experienced a contraction. Construction output fell by 1.7% following a contraction of 1% in the previous quarter. The services sector known for predominately holding up growth, also contracted by 2.3%. Also notable were the falls in air transport and accommodation and food services.
According to the latest labour market statistics the job retention scheme achieved what it was set out to do, keeping unemployment unchanged at 3.9% in April. However, despite this, total hours worked and the number of new vacancies fell sharply - total hours worked dropped by 8.7% q-o-q to 29.1 hours per week. This will largely reflect the large number of employees who were furloughed. Furthermore, total pay growth was negative in real terms for the first time in two years as total pay growth fell from 2.4% to 1.0%, led by the private sector (0.5%).
The Office of National Statistics' (ONS) Pay As You Earn Real Time Information (PAYE RTI) dataset indicates that the number of payroll employees reduced by 2.1% (612,000) between March and May 2020. In the current climate it makes sense to refer to the claimant count data in order to gauge the levels of unemployment. The claimant count data, which will include claims from those on low incomes as well as unemployed, increased sharply to 7.8% in May from 3.5% in March. It is clear from the PAYE data and the claimant count data that job losses continue to occur, although slowing in May.
Unemployment is a lagging indicator. Businesses will start contributing towards the job retention scheme from August, and if businesses are unable to take employees back they will have to let them go. Therefore, the true state of the labour market is disguised by Government policies and is likely to become visible in Q4.
The BoE kept rates on hold and increased asset purchases to GBP745bn. The pace of purchases is expected to slow with the aim to complete the programme by end 2020 unless market conditions deteriorate.
The price discovery mode of the last three months is slowly receding. With evidence building and rental income proving resilient, the RICS has recommended that material uncertainty clauses be lifted for valuations of industrial assets and build-to-rent housing. Industrial and residential assets, both beneficiaries of long-term demographic trends, have been key drivers of investment activity in recent years. This should encourage institutional investors to consider opportunities again and fuel confidence across the market.
In Central London, some flagship office sales have been revived as offices begin to re-open and key investor domiciles exit lockdown. Despite travel restrictions, Hong Kong-based investors are particularly active, partly influenced by the increasing uncertainty around the territory’s future. Link REIT is reportedly in talks to buy Hines’ The Cabot, previously under offer to Blackstone at £390m / 4.75%. A Hong Kong-based group has just purchased 20 Farringdon Street for £120m / 4.58%, and 1 New Oxford Street is reportedly under offer to a Hong Kong-based party close to the quoting price of £181m / 4.00%.
Nevertheless, significant liquidity challenges remain, particularly for sellers. In a microcosm of the current market, a bellwether south east business park, under offer since January, recently exchanged for a c. 15% discount on its original pricing, and latest IPD data suggests capital growth is continuing its decline. While we have seen healthy volume in the £100m+ lot size range so far this year, the smaller lot sizes remains suppressed as private investors struggle to source new finance. Some buyers are inserting “COVID clauses” into contracts, such as rent top-ups to cover June quarter rent shortfalls.
Indeed, a sharp fall in rent collection is expected; early indications from our property management team suggest under 20% of rent owed in the retail sector has been collected so far. Lenders will eventually have to make some tough decisions. Shopping centre landlord Intu has been an early casualty, having gone into administration after failing to reach a standstill agreement on covenant breaches with its lenders. Therefore, most investors are watching carefully the UK's slow journey out of lockdown, while remaining cautiously optimistic about UK Real Estate’s long-term trajectory.