Early evidence of tariff impacts
When tracking the impact of major shocks on the world economy, such as the increase in US import tariffs, the first clues on the extent of the damage appear in financial markets and then the surveys. The survey data for April signalled a weakening in the UK economy. Consumer confidence declined and the PMI business surveys signalled to a sharp contraction in economic output.
However, the survey data released by the Confederation of British Industry were much less pessimistic. They showed improvements in orders, business optimism and various forward-looking indicators. Despite these differences, both surveys highlighted a drop in export demand, reflecting the weaker global backdrop.
Stronger case for interest rate cuts
We expect the US tariff shock to have key implications for UK policy. The negative impact on economic growth means that Chancellor Reeves may need to deliver further consolidation to meet her fiscal rules. In addition, we think that weaker global demand, lower energy prices and potentially the rerouting of cheaper Chinese goods will put downward pressure on inflation in the UK. This supports our view that the Bank of England will continue cutting interest rates over the remainder of the year, even as other factors cause inflation to temporarily increase.
“We continue to forecast at best a small uptick in investment volume this year. That said, we think real estate markets will be supported by a renewed investor focus on income stability and low volatility, while up to 100bps of rate cuts over the next 12 months will support pricing.”
Muted start to 2025 for commercial real estate investment market
Q1 market data confirms that, after a strong end to 2024, the UK commercial real estate investment market slowed at the start of the year. Total investment volume fell from £15.9bn in Q4 2024 to £9.4bn in Q1 2025. This is c. 24% down on Q1 2024, and the lowest Q1 volume since Q4 2023. Offices, industrial and retail all saw below-average volume, with the Residential sector (encompassing the institutional private rental subsectors) the only segment seeing volume exceed 10y Q1 average.
Path forward uncertain, but UK well-placed to weather the shock
However, these figures are backwards-looking and reflect a pre-‘Liberation Day’ world. Since then, investors have been forced to reassess the Dollar’s safe-haven status, causing wild swings in global capital flows. Even if tariffs are eventually reduced, US economic policy uncertainty is likely to increase the chances of a US recession, which will in turn lower growth and corporate earnings globally.
In the UK investment market, many investors have paused to reassess strategies and pricing, but there has not been a wholesale pause in dealmaking as seen in the immediate aftermath of recent ‘Black Swan’ events. Indeed, if we take the listed market as a signal, pricing remains attractive. The M&A is continuing apace, but UK REIT share pricing has rebounded strongly this month. Indeed, UK REITs are currently outperforming both the wider equities market and listed entities in Europe and the US (see chart).
Overall, forecasts of lower economic growth mean we continue to forecast, at best, a small uptick in UK investment volume this year. That said, we expect a renewed focus on income stability and low volatility will support core real estate markets. The office market could emerge as a relative winner; the sector’s income is generally secured against the Services industry and is thus less exposed to the direct impact of tariffs. Moreover, it is only just emerging from a significant interest-rates driven pricing correction that has forced yields to rebase at high levels and stifled new development. With leasing take-up in Central London up almost 30% y/y and the pipeline of new space beyond the short term looking very thin, the ongoing fall in supply levels is picking up pace, fuelling continued headline rental growth. Swap rates are also edging down as investors expect more base rate cuts this year, which will support pricing. In a world where future earnings growth forecasts are being downgraded, this will be a key driver of demand for the year ahead.
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