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Our Marketplace / Continued
Market drivers
Theme
Impact on investment markets
Geopolitical drivers: / Conflict / Uncertainty / Supply chain disruption / Energy prices
High levels of geopolitical uncertainty can have an adverse impact on investment markets. Geopolitical tension and conflict have the potential to create disruption, cause price shocks, and increase the risk premium. However, the UK is an attractive location for investors in a global context, offering high levels of transparency, governance and stability. The UK is ranked first in the latest JLL Global Transparency Index.
Economic drivers: / GDP growth / Inflation / Interest rates / Business and consumer confidence
The pace at which the Bank of England increased the base rate between January 2022 and August 2023 in response to soaring inflation caused uncertainty in the Government bond markets. CPI inflation reached a peak of 11.1% in October 2022 and remained elevated for longer than expected. Long-term gilt yields rose, which narrowed the gap between the risk-free rate and property yields. A correction followed, causing commercial property values to fall. Investment volumes are adversely impacted by high levels of uncertainty and an increase in the cost of debt. Higher costs increase the hurdle rate an investment is required to achieve, affecting feasibility. During 2023, UK commercial property investment volumes were significantly below average. CPI inflation has fallen to 3.2% as at March 2024 and the Bank of England base rate has been held at 5.25% since August 2023. It is expected that the Bank of England will start to reduce the base rate in the second half of 2024. The commercial property market is cyclical due to a variety of factors, for example demand supply dynamics, economic conditions, the impact of inflation on construction costs, and property yields compared to bond yields. This cyclicality is a driver of capital markets, given that timing of investment decisions can have a significant impact on returns. The different sectors within commercial property can be at different points in the cycle, therefore a diversified approach can bring the benefit of reduced risk over the longer-term. Factors considered under the umbrella term of Environmental, Social and Governance are playing an increasingly vital role in investment pricing and decision making. Assets which are decarbonised, energy efficient, carry a high EPC rating and a low level of physical risk are more likely to command a ‘green premium’, whereas a ‘brown discount’ can be applicable to assets of the opposite calibre. Assets which are not decarbonised, carrying physical risks from the impacts of climate change, or transition risks through not conforming with regulation and legislation, are at risk of becoming stranded. Investors are also driven by social issues, and want to be seen to be making a real positive impact rather than greenwashing. Property owners who do not balance different stakeholders’ needs, or nature and the built environment risk scrutiny. Technology drivers affecting capital markets could be in the form of constructs driving structural changes, like the evolution of General Purpose AI, Machine Learning, Big Data and the digitalisation of society, which have the potential to affect how and where we work, live and spend recreational time, and therefore which property sectors will win or lose as a result. AI and Big Data are likely to give a competitive advantage to those who use these tools to make investment decisions. AI also carries wider risks, for example in the form of cyber insecurity, job losses, social risk and information inaccuracy. Investors who fail to account for these may be compromised in the longer-term. More specifically, assets which have technological capability and supporting infrastructure are likely to be more investable than those that fall short or are reliant on legacy systems.
Property cycles: / Sector differences / Stages of recovery
ESG drivers: / Environmental factors / Climate change / Biodiversity / Social impact / Governance
Technology drivers: / AI
/ PropTech / Big Data / Digitalisation of society / Supply chain optimisation / Rapid pace of change
Picton Property Income Limited / Annual Report 2024 26
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