Rents stabilised in the first half of 2023 after an extraordinary period of growth triggered by the post-lockdown return to the city. Although there was genuine excess of demand over supply at that time, the pace of growth was never sustainable – but it does look as though the levels reached will be consolidated as the new normal with some upward pressure in the busy summer months through to October.
As a general rule, rents track earnings over time. Renters, especially young renters living in cities, are normally flexible and can reconsider their living choices each year – which eventually puts a natural cap on rental growth. They will absorb a certain degree of growth in the short term but at some point, unless wages rise, they start to make different decisions such as relocating to lower value locations, or occupying smaller properties.
Figure 5 plots rents over a 25 year period and it is clear that there is no precedent for the rate of growth experienced in the past 2 years, rental growth is normally far more gradual. The wider cost of living crisis has helped to cap this most recent growth spurt even though demand remains robust and supply limited.
Three bed apartments were the exception in the period 2015 – 2019 because there was an oversupply caused by planning requirements to build ‘family homes’ even though there was no substantial demand from families for apartments – but they do not represent the mainstream market. One and two bed apartments are the mainstay of our markets.
In our markets, East London attracted most attention this year, as more workers returned to their offices in Canary Wharf and the City whereas West End offices seemed to recover earlier in the process. It is still not clear where working patterns will settle but the desire to live in the heart of London remains the primary driver of demand in our areas, whether or not they are commuting to an office every day. The 21% increase in jobs in financial and business services quoted earlier in this report underwrites demand for rental.
Families are behaving differently. Higher rents on top of higher costs of living have made it harder for some families to stay in central and inner London and there are reports that this is resulting in some school closures with more put at risk. Camden has closed four schools since 2019 and Islington, Southwark, Hackney and Lambeth are all reported to be considering the same course of action. It looks as though two decades of rebuilding urban living for families in London may be unravelling.
Table 5 shows that rents have remained virtually unchanged across all of our markets this year and for all property types. The only exceptions are Midtown one-beds where rents lost 5% and City 2 beds which lost 3%. Certainly for Midtown one beds, that loss is likely to be recuperated during the summer when the student market picks up around Bloomsbury.
We will see renewed upward pressure on rents across our markets in the summer simply because supply cannot meet demand.
It has been widely reported in the press that the pressure on rents has been exacerbated by loss of rental stock because landlords are selling up in the face of higher taxation and other rising costs. There is no doubt that lack of supply is driving rents.
The reason for selling though, is different, at least in our experience. Investors who purchased between 1996 and 2010 are selling to fund their retirement plans, or to support adult children into home-ownership. It is a natural lifecycle and would not be a problem were it not for the fact that stamp duty increases in December 2014 discouraged new buy to let buyers from investing in central London and so the pool of rental properties is being progressively eroded.
Another trend this year is the number of landlords withdrawing properties from the rental market for their own occupation or for a family member. That reason alone accounted for 10% of all notices given on rental properties at our offices this year. With sales prices stuck at 2013 prices this is unsurprising and indicates the inherent value of owning real estate in the capital to an owner and their family.
In the majority of cases, when a tenancy is ended, it has been initiated by the tenant. Of all the notices received in our offices so far this year, 63% were initiated by the tenant because they were relocating or buying. These moves help to restore the supply demand imbalance and bring stock back to the market.
Another 14% were the result of not reaching agreement on a revised rent, these too will return to the market for reletting. However, 9% of notices were served because the owner wanted to sell the property.
These landlords are, as mentioned earlier, normally selling because they want to use the funds elsewhere. Of much greater concern is the absence of new investors buying in our markets. Without government incentives we do not expect to see the return of domestic rental investors anytime soon, which means the central London market becomes more dependent on overseas investors stepping in to fill the gap with the purchase of new homes at overseas sales exhibitions.
One factor boosting demand for rental accommodation is record-high net immigration totalling 504,000 people in the year to June 2022. Some of this will be a backlog following the pandemic when immigration was all but suspended and
we can expect numbers to settle back to more normal levels.
This partly explains the jump in student numbers as universities offered extra places to encourage the return. Overseas students studying in the UK totalled 680,000 in 2021/22, up 122,000 in 2 years. However, there was also a major change to the visa rules last year to attract skilled workers and offset the loss of EU nationals in the jobs market.
Following changes to the rules, in a bid to control immigration, international students will no longer be able to bring dependants with them unless they are on postgraduate courses that are currently designated as research programmes.
The package will also remove the ability for international students to switch out of the student route and into work routes before their studies have been completed to prevent misuse of the visa system. The changes will come into effect for students starting their courses from January 2024 in order to allow future international students time to plan ahead.
This may curb some of the increases especially in universities that have actively promoted themselves to overseas students to bring in revenue. However, we do not see this as a major issue in central London where our international students rarely rent with relatives.
The strength of rental growth over the past 2 years has greatly improved income returns for investors and, since prices have not grown, the gross yield on an investment property in our markets is now close to 6% for a one bed apartment, at 5.8%. The last time yields hit 5.8% was in 2005, and they have not even been close to that level since 2011. (See figure 6)
The average annual rent for a one bed apartment is now around £26,500 per annum. A single renter would need an income of £63,600 to cover the rent and comply with normal referencing criteria. Couples sharing a single bedroom apartment are obviously in a much stronger position.
Overseas students, who are an important source of demand around London’s prestigious universities and medical schools in Bloomsbury, are generally supported by their families and in a position to pay 6 – 9 months’ rent upfront as a capital payment.
The trade-off between owning and renting is a more complex calculation with service charges adding to the annual running costs of owning a home.
Yields for a 2 bed apartment are almost 5% while the larger apartments with 3 bedrooms have risen less steeply and now offer a lower gross yield at just under 3.75%.