Central London Net Effective Rents Monitor Q4 2022

The Carter Jonas Net Effective Rents Index

Our Central London Net Effective Rents Monitor 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 can have 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. 

Trends in Q4 2022

Overall, prime headline rents across central London (excluding the upper floors of tower buildings) increased by 2.2% during Q4 2022, the first quarterly change since Q4 2021. However, typical rent free period incentives rose modestly in some districts (although the majority saw no change). As a result, prime net effective rents increased at a slightly slower rate than headline rents in Q4. For five-year leases, the rise in net effective rents was 1.9%, whilst 10-year leases saw an increase of 2.1% (to read more about the latest office rents rates and occupancy costs in London, click here).

However, behind the overall central London figures the picture this quarter is somewhat nuanced, with different dynamics affecting different submarkets. So what’s going on?

Prime headline rents in the core City of London (Bank / Leadenhall Street) increased by 3.6% during Q4, primarily driven by the shortage of immediately available grade A stock. However, in some fringe City of London districts we have seen record rental levels agreed on schemes that are setting benchmarks for quality not previously seen in these locations. For this reason, prime headline rents have increased by 5.8% in Shoreditch / Clerkenwell, and 11.5% in Spitalfields (reaching £72.50 psf in all of these districts).

The new developments driving this trend include Blossom Yard & Studios at Norton Folgate, Spitalfields, where law firm Reed Smith has signed for 126,800 sq ft. In Farringdon, The JJ Mack Building has reportedly achieved rents of around £100.00 per sq ft following the letting of 37,880 sq ft to private equity firm Partners Group, setting a new benchmark for the area, underpinned by the Elizabeth Line which has boosted its connectivity.

At the same time as rising prime headline rents, we have also seen a modest lengthening of typical rent free periods being agreed in some City of London districts, as landlords focus on securing the highest headline rent at the expense of giving away a slightly longer rent free period incentive. The overall impact of these movements has been a rise in the net effective rent for the City of London submarket of 2.3% assuming a five-year lease, and 2.9% assuming a 10-year lease. 

In the core West End, prime headline rents have also increased significantly, with Mayfair and St James’s now achieving £125 psf (excluding the upper floors of super-prime buildings where rents of over £140 per sq ft are more typical). This represents an 8.7% increase over the quarter, and reflects the acute shortage of available stock. 

The Fitzrovia submarket saw its prime headline rent increase to £97.50 psf, reflecting a rise of 5.4%. Elsewhere in the West End prime rents were stable during Q4, and there was no significant change to typical rent free period incentives in any West End submarkets during Q4. The overall increase in the net effective rent for the West End was 2.7% during the quarter. 

In Midtown, prime headline rents were static apart from the Covent Garden district, which increased to £80 psf, a 3.2% uplift. With stable rent free incentives across Midtown, the prime net effective rent increased by 0.8% in this submarket.

Docklands saw an increase in the prime headline rent from £52.50 to £55.00 psf, although the length of rent free periods that landlords are prepared to concede has increased for 10-year leases, as landlords sought to attract occupiers and also underpin headline rents. Overall, the prime net effective rent for East London (including Docklands and Stratford) increased by 1.8% during the quarter.

Against a background of inflation in excess of 10% and corporates under increasing pressure to reduce costs, together with last autumn’s political and financial turmoil associated with the ‘mini budget’, it may seem surprising that net effective rents increased in Q4. However, the terms of the deals against which these increases are benchmarked were agreed towards end Q2 and during Q3, when the outlook was more stable. For the same reason, we expect the Q1 2023 figures to show relatively little movement.

The change in headline and net effective rents by submarket during Q4 is illustrated in Figure 1. 

Source: Carter Jonas

trends during 2022

Looking at the change in prime net effective rents during the whole of 2022, the tightness of the West End submarket is evident. Rent free periods offered by landlords have reduced by typically two months in all central West End districts. Those West End districts with the tightest supply have also seen some notable increases in prime headline rents over the last year. Mayfair and St James’s have risen by 8.7%, and Fitzrovia has increased by 5.4%. The combined effect is an overall increase in the West End net effective headline rent of 7.0% in 2022 assuming a five-year lease, and 4.9% assuming a 10-year lease. 

The City of London has also seen a rise in the net effective rent over the last 12 months, although at 4.3% assuming a five-year lease, and 3.2% assuming a 10-year lease, this is a lower rate than in the West End. The increase has been largely driven by the movements in Q4 described above – although with the added twist that some of the increases in rent free periods in Q4 have reversed reductions seen in Q1. 

Prime net effective rents in Midtown are 3.9% higher than a year ago assuming a five-year lease, driven by less generous rent free incentives, which have reduced by 1-2 months, and the small increase in prime headline rents seen in Covent Garden. 

East London (including Docklands and Stratford) saw little change in prime net effective rents during 2022, with an increase of just 1.8% assuming a five-year lease, reflecting the rise in prime headline rents in Q4.

Overall, the central London office market saw an increase in the net effective rent of 4.2% during 2022, assuming a five-year lease. The equivalent figure based on a 10-year lease is a lower 2.6%.

The change in headline and net effective rents by submarket during 2022 is illustrated in Figure 2.

Source: Carter Jonas

Net effective trends over the cycle

Figure 3 illustrates how the current cycle has been much more pronounced for net effective rents in comparison with prime headline rents (and even sharper for a five-year as opposed to a 10-year lease assumption). 

For the overall central London market, prime headline rents are now above their peak pre-pandemic level (by 1.3%), whilst net effective rents are still below their pre-pandemic level, albeit by only 1% (for both five and 10-year leases). It can also be seen that the differential between five and 10-year leases that emerged during the pandemic has closed during 2022. 

The overall central London figure masks wide geographical variations. Figure 4 illustrates the trend in net effective rents (assuming a five-year lease) by market area. All four main market areas have seen an increase following the pandemic low, but the extent has varied considerably. 

The West End has seen a stellar rise in net effective rents, which have increased by 12.7% since the pandemic low point in Q2 2021, and are now 3.8% above their pre-pandemic peak. In Midtown, rents are now back to their pre-pandemic level, having increased by 8.5% since Q2 2021. In the City of London, net effective rents are still 1.5% below their pre-pandemic level, but have increased by 6.9% since Q2 2021.

East London (including Docklands) is something of an outlier. Net effective rents have risen by only 4.1% since Q2 2021, and are still 6% below their pre-pandemic peak. Given that rents fell the furthest at the start of the pandemic, the gap between Docklands and the other central London market areas has widened significantly.

Source: Carter Jonas

Outlook

The first half of 2023 is likely to be a challenging one for corporate occupiers. Cost pressures will increase not only through higher labour and input costs, but also due to the Business Rates revaluation, the rise in Corporation Tax, and debt servicing costs. As a result, corporates are strengthening their balance sheets and looking to reduce operating costs where possible. Given the uncertain economic outlook, many occupiers will be less willing to make major five or 10-year commitments to take new office space.

The other side of the coin is supply. With little speculative space due to complete this year, high quality space will remain very scarce across much of central London. This will help to support prime net effective rents, although this will vary according to district, with areas such as Mayfair / St James’s continuing to experience the most acute shortages of prime stock, whilst a greater choice will remain available to occupiers in locations such as Docklands.

Overall, the first half of 2023 should see static rent free periods in those submarkets where supply is scarce. In those areas where there is a better balance between supply and demand, including the City of London, Docklands and West London, weaker demand may mean that landlords offer slightly longer rent free incentives in order to maintain headline rents at their end-2022 levels.

It is important to note that our analysis considers grade A space exclusively. The outlook for lower quality grade B stock is very different, as the shift in occupier preferences towards top quality space is being accelerated by the changes to MEES regulations which are being phased in between this April and April 2030.

As a result, landlords are finding it increasingly difficult to let space that is anything less than prime, and this is likely to result in further downward pressure on net effective rents for grade B stock in 2023, with declining headline rents and lengthening rent free incentives. In addition, we may see more secondary space coming back to the market as occupiers reduce their footprints, or potentially become insolvent, further exacerbating the imbalance between supply and demand in this market segment. 

Detailed net effective 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).

Source: Carter Jonas

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