Office rents soar as new skyscrapers rise in city

The capital's commercial rental market is recovering rapidly after a bruising decline during the recession, reports Nikhil Kumar

UBS did it in the summer and now, just months later, Bloomberg has followed suit. One after the other, the two have decided to put money in the City. We are not talking about some fancy new financial instrument. No – the pair have decided to invest in bricks and mortar in London's Square Mile, heralding a revival in the capital's office market.

Back in August, the Swiss investment bank agreed a deal to house its new London headquarters on the sprawling Broadgate Estate, owned by the developer British Land and the fund manager Blackstone.

Two existing buildings will be knocked down, paving the way for a new unit boasting more than 700,000 square feet of floor space for the Swiss group's legion of traders and bankers. UBS will rent the property at an initial headline rate of £54.50 per square foot on a weighted average lease of around 18 years.

Earlier this week, we learnt that Bloomberg was following suit with plans for its own European head office in Walbrook Square. The financial-information provider said it had agreed to buy the site, a stone's throw from the Bank of England in Threadneedle Street, from Legal & General, and planned to build two new buildings – one to house its offices and one a speculative development. The architect, Lord Foster's firm Foster and Partners, has been drafted in to design the new headquarters, which will contain more than 500,000 square feet of office space.

The investments come against a pick-up in developments. Commuters passing by London Bridge will have noticed the growth of the Shard, the giant, 72-storey glass-and-steel tower which, when it is completed in 2012, will, at 310 metres (1,017 ft), be Europe's tallest building, and which has been going up at a breakneck, Jack-and-the-Beanstalk-like pace in recent months.

It is part of the London Bridge Quarter, which will cover approximately 2 million square feet of mixed-use space. It will consist of the Shard, and the London Bridge Place office building. When completed, the latter will boast a gross area of 600,000 square feet.

Beyond the Shard, there is the 242m (794ft) Heron Tower, which is due for completion next year, and the Leadenhall Building, nicknamed the "Cheese Grater" owing to its wedge-like shape, which is due to be completed in 2014. In the coming years, City folk can also look forward to the Pinnacle, otherwise known as Bishopsgate Tower or the "Helter Skelter", and the so-called "Walkie Talkie" at 20 Fenchurch Street.

But the developments do not mean that the City will suddenly be awash with excess office space. In fact, the supply-side picture remains encouraging, as the development pipeline was effectively turned off when the economy slumped two years ago, according to the real-estate consultant DTZ, which expects prime City rents to rise to £67.5 per square foot by the end of 2014.

For 2010, prime City rents are expected to end the year at £55 per square foot, up by more than 26 per cent on the £43.50 at the end of 2009, according to DTZ. Take-up has also been strong, with people acquiring some 5.7 million square feet of space so far this year. Interestingly, that figure excludes the Bloomberg Walbrook announcement, which, if factored in, would take the total for 2010 to over 6 million square feet, comfortably above the long-term average of 5 million per year.

The gains in the London office segment have been driven by a combination of limited supply of space coming on to the market and strong demand from the financial-services industry, which has taken up more than 50 per cent of the space in the City. Lawyers and insurance firms, have also supported the market, according to DTZ. The strength is reflected in figures complied by the commercial-property researchers at Investment Property Databank (IPD), who also highlight the volatility of the City market. On IPD's numbers, the peak-to-trough slump in capital values in City offices was 45.5 per cent, while West End offices and the broader property market experienced a 42.4 per cent decline during the recent slump. But if City office prices fell fast, they also swiftly rebounded as the economy and investors began to regain composure.

Values bounced back by 23 per cent in the 15-month period from the beginning of the third quarter of last year to the end of September this year. The West End had a stronger, 27.1 per cent rebound. The broader market, on the other hand, recovered by only 17.4 per cent .

The one gauge that sums up the story, according to Phil Tily, IPD's UK & Ireland managing director, is the yield on prime central London offices. It has compressed back to pre-credit crunch levels, he says, adding: "Strong demand from financial services and [a] slowdown in the supply of new space ... [has] created a perfect cocktail."

Looking ahead, Land Securities, the FTSE 100-listed group behind the "Walkie Talkie" , expects demand to stay firm, pointing to factors such as the higher-than-normal level of lease expiries due from 2013, particularly in the City, and growing demand for new or newly upgraded properties as tenants seek more energy-efficient and better-equipped buildings.

The developer is not alone. The analysts at Morgan Stanley are also hopeful about the road ahead. In a recent circular to clients, they put City offices ahead of shops, shopping centres, retail warehouses and industrial properties, forecasting 8 per cent rental growth next year.

Their predictions for the West End office market are similarly bullish, while overall, they expect the broader market to see rental growth of 5 per cent. The outperformance is expected to persist, with City and West End offices forecast to record higher-than-average growth of 5 per cent in 2012. In contrast, the overall property market is expected to see 4 per cent growth.

"We think that in 2011 London offices will be yet again the strongest-performing asset class," they said, no doubt inducing a satisfied smile or two at UBS and Bloomberg.

London offices in figures

5.7million The amount, in square feet, of City office space taken up so far this year. The long-term average is 5 million per year.

£55 The level per square foot at which prime City rents are expected to end 2010.

26 per cent The anticipated rise in prime City rents this year. They stood at £43.50 per per square foot at the end of 2009.

45.5 per cent The peak-to-trough decline in capital values in the City office market during the recession.

23 per cent The recovery in values in the 15 months to September.