Central London Net Effective Rents Monitor Q2 2022

The Carter Jonas Net Effective Rents Index

Welcome to the fifth edition of our Central London Net Effective Rents Monitor, which illustrates the combined impact of changes to both headline rents and the typical length of rent free periods across 22 key central London districts. 

The Index also reflects different lease lengths by providing analysis of five and ten year leases, which has a significant impact on the net effective rent for each district. 

Note: the impact of the timeframe for the ingoing tenant to carry out its fitting out works has not been factored into the Carter Jonas net effective rent analysis simply because the timeframe will be influenced by the quantum of space to be leased. 

Net effective rents – the headline results

Our index reveals the impact that changes to both headline rents and to rent free period incentives are exerting on grade A net effective office rents. 

Over the 12 months to the end of Q2 2022, prime headline rents across the whole of the central London office market have been relatively static (rising by just 0.2%, driven by the Mayfair / St James’s submarket). However, continued buoyant take-up of grade A space over the last year means that landlords have been reducing the levels of rent free incentives they are willing to offer. 

Rent free periods for 5-10 year leases have typically contracted by 3-4 months in the West End, Midtown, and South Bank sub-markets, where the low availability of grade A stock has resulted in competition among tenants intensifying. In the City, the reduction in rent free periods has been somewhat less marked (typically 1-3 months), with minimal reductions in East London / Docklands, where weak demand is holding back the rate of contraction in rent free incentives. 

As a result of the declining value of incentives, net effective rents for prime located grade A space in the central London office market have, on average, increased by 5.5% over the last year (assuming a five-year lease), and by 3.0% assuming a 10-year lease. 

These increases mean that net effective rental levels in central London are moving closer to their pre-pandemic levels. Prime headline rents fell by only -1% from peak to trough and are currently -0.8% below their pre-pandemic low. In contrast, net effective rents fell quite sharply, by -8% (assuming a five-year lease), and -6% based on a 10 year lease, but are now only -2.9% and -3.1% respectively below their previous peak.

Looking at the change during Q2, and prime headline rents were stable across all central London submarkets. That said, we are seeing increases in advertised rents for prime-located, best-in-class, grade A space in a number of submarkets, most notably in the West End. 

For five-year leases, Q2 saw a continued modest reduction in typical rent free incentives across a range of submarkets in the City, Midtown and West End. However, this was not the case across all submarkets and, notably, East London (Docklands and Stratford) saw no change. Falling rent free incentives have produced an increase in the prime net effective rent for central London as a whole of 0.8% during Q2, assuming a five-year lease. Meanwhile, 10-year leases have seen stable rent free periods over the last quarter.

Figure 1 illustrates the change in prime headline and net effective rents across the main submarkets. Figure 2 shows how our index of prime headline and net effective rents for central London as a whole has moved since 2019. 

Trends by submarket

The sharpest rises in net effective rents have occurred in the West End, where the demand / supply imbalance for prime space is the greatest. Whilst the last year has seen prime West End headline rents rise by only a modest 0.9%, net effective rents have increased by 8.6% for a five-year lease, and by 5.3% assuming a 10-year lease. This means that both headline rents and net effective rents for a five-year lease in the West End are now back to their previous pre-pandemic peak (although for a 10-year lease, they are still 1% below their previous peak). 

Midtown has also seen a sharp rise in net effective rents over the last year, despite broadly static headline rents. Net effective rents for a five-year lease have risen by 7.6%, with a rise of 3.2% for a 10-year lease. Net effective rents (assuming a five-year lease) are now only 0.8% below their previous peak. 

The City of London has seen net effective rents rise by 4.7% over the last year, assuming a five-year lease, and by 2.6% assuming a 10-year lease. Here, net effective rents are still 3.5% below their pre-pandemic level (for a 5-year lease).

Meanwhile, East London / Docklands, where high vacancy and poor demand have conspired, has seen the lowest increase in prime net effective rents over the last 12 months of 2.2% (five-year lease) and 0.9% (10-year lease). Net effective rents, based on a five-year lease are still 7.7% below their previous peak. 

Outlook

Occupier demand faces the combined headwinds of economic uncertainty, rising inflation, and an ever sharper focus on costs, as well as the ongoing working from home revolution. It is therefore likely that occupational demand for office space across central London will weaken during the remainder of 2022, reducing the bargaining power of landlords. 

However, the driving force behind rising net effective rents in the grade A market has been the structural shift away from low quality space with poor environmental credentials and the constrained supply of high quality, energy-efficient accommodation which remains well below current and likely future demand levels in many locations. 

Prime net effective rental levels will therefore be most resilient in the West End and Midtown, where quality space is in the shortest supply and will not be replenished rapidly due to low levels of development. 

In the City, downward pressure on incentives over the last year has been largely limited to the upper floors of tower buildings. However, this submarket could increasingly benefit from a migration of occupiers unable to find suitable quality accommodation in the West End, further encouraged by the opening of the Elizabeth Line. 

It is important to note that these trends apply to grade A stock and are not representative of the wider market for secondary space, where there remains ample supply. Given the increasing focus of occupiers toward high quality “green” space, there is unlikely to be any significant upward rental pressure in this market segment over the next year, with the possible exception of better quality secondary stock in those submarkets where the supply of quality space is most constrained, notably prime locations in the West End. 

Detailed rents by submarket

Figure 5 shows our assessment of current grade A net effective rents compared with a year ago across all of our central London submarkets area (assuming a five-year lease).

For further information on the Central London Office market, contact a member of our team.