European commercial property investment is on a rebound and rose 40% in the fourth quarter of 2009, to the highest level since the collapse of Lehman Brothers in 2008. Last Friday, London-based IPD, a global provider of property market indices, reported that the final month of last year delivered the largest monthly capital growth in IPD’s 23-year history, at 3.0%, according to December’s IPD UK Monthly Index. The figure beats the 2.9% delivered exactly 16 years earlier in December 1993, at the end of the last major property recession.

On the European property market, CB Richard Ellis, the commercial property consultancy, reports that more than €25.7bn of property deals were agreed in the fourth quarter of 2009, an increase of 42% on the previous quarter and double the levels traded in the first two quarters of the year.

In the first three quarters of 2009, there was about €41bn of investment activity in the European commercial real estate market. There has been a steady increase in activity each quarter since the low of €12bn in Q1 2009. The full-year total of €70bn, compares with €121bn in 2008.

Michael Haddock, director, EMEA (Europe, Middle East, Africa) Capital Markets Research, CB Richard Ellis commented: “The recent upturn in investment activity suggests that many investors believe the European market is approaching the bottom of the cycle; and in some cases, it may well be past that point. Whilst investment turnover has started to pick-up from lows of around €12 billion in both Q1 and Q2 this year, concerns remain about slow economic recovery and its lagging impact on the occupier market.”

The UK market accounted for the biggest share of the new investment, with more than a third spent on British property. Investment in the UK jumped by 64% in the second half compared with the first six months of the year.

The second biggest market was Germany, which accounted for about 15% of investment activity.

As recently as 2007, the Irish were the second biggest investors in European commercial property.

Sovereign wealth funds participated in investment activity and the biggest purchase in the second half was that of HSBC’s headquarters in London’s Canary Wharf by South Korea’s National Pension Service of Korea.

EMEA Viewpoint After the Storm Jan 2010

UK

IPD said December's capital value gain of 3.0%, was the fifth-consecutive monthly rise, which amounted to a compounded growth of 8.8%, that was sufficient to lift returns on UK commercial property into positive territory for the calendar year. In the first IPD indication of the year, UK commercial property annual total returns for 2009 were 2.2%, while capital growth was -5.6%.

2009: a year of two halves

As the chart above illustrates, over the first six months of last year initial yields across all three sectors continued to expand, albeit at a slower pace, which together with a recession-led weakening in rental levels caused capital growth to continue to fall. Incrementally over the first half of last year yield pressure softened as rental growth weakened.

At the start of the second half of 2009, the key driver of capital growth flipped with yield impact, which measures the influence yield movements have on capital values, turning positive. A subsequent easing in rental pressure was sufficient to produce the first positive monthly capital growth figure in August - - at a modest 0.2%. The month-on-month yield compression then led to a rapid turnaround in fortunes, although December’s rental value growth was marginally weaker than the previous month, at -0.4%.

Headline sector analysis

At the sector level, the most recession-sensitive sector, Offices, began its recovery latest. After a capital growth decline of -14.0% over the first eight months of the year, the Office sector staged a recovery from September to the end of year, at 6.4% to end 2009 at -8.4%. In the Retail sector, over the first six months of 2009 capital growth fell by an identical amount, at -14.0%, but returned to positive capital growth In July delivering 11.3% to December to end the year at -4.3%. The Industrial sector’s initial capital depreciation last year was the shallowest, at -11.0% over the seven months to July, before a compounded 7.3% capital growth over the final five months to end the year at -4.5%, marginally worse than the Retail sector.

Longer term picture

IPD said from the start of the early part of the decade property market rally in January 2002, unbroken monthly capital growth over five an half years to July 2007 saw values rise by 52.9%, followed by a 25-month peak-to-trough to July 2009 in which markets fall by 44.2%. At the tail-end of the decade, the reversal of market fortunes was such that quarterly capital growth over the three months to December 2009 was the largest on the Monthly Index records, at 7.4%.

Over the decade, compounded nominal total returns were 81.5%, driven entirely by income returns of 90.5% while capital growth decline by -4.8%. On an annualised basis total returns, capital growth and income returns were 6.1%, -0.5% and 6.7%, respectively.

UK commercial property annual investment returns in 2009, at 2.2%, outperformed the bond markets (FT Gilts 5 - 15 Years Index), which fell by -0.3% but significantly underperformed against the recovery in wider equity markets (FT All-Share Index), which delivered 30.1%.

IPD report

Ireland

CB Richard Ellis Ireland said in a report last week that €92m worth of open-market investment transactions were agreed last year, compared with €3.3 billion at bubble peak in 2006 - - representing a 97% decline from peak levels.

Only 13 investment transactions were completed in 2009. The biggest deal was the sale of the Tommy Hilfiger store on Grafton Street in Dublin to German fund Deka, for about €25m.

CB Richard Ellis said that retail rents had fallen by 30% from their peak with prime retail rental yields now averaging 7.5%, compared with 3.75% at the height of the market three years ago.

Marie Hunt, director of research at CB Richard Ellis, said that 200 Irish retailers went bust last year and she expected ‘‘a similar number’’ to become insolvent in 2010.

Investment property values have fallen by 60% from their peak and "it will likely be 2011 before conditions in the Irish property market improve to any noticeable degree."

Irish Outlook 2010, CB Richard Ellis Research