UK economy and politics 



Jon Neale UK Head of Research [email protected] +44 (0)20 7087 5508

2017 will bring no real clarity on the eventual Brexit deal Media and markets alike will be dominated by speculation over the terms of Brexit throughout the year, particularly after Theresa May activates Article 50 in March. Indeed, this – and other key events or announcements throughout the two-year negotiation process – could lead to fresh bouts of volatility in the currency markets and beyond, albeit not on the scale of those seen after the vote itself. However, with the French and German elections dominating the agenda on the continent, there is likely to be little real progress, or any end to the chronic uncertainty. This will be compounded by the European Union being determined to focus on the issues around the UK’s departure – such as those around future liabilities, staffing and so on rather than the shape of a future trade deal. The one exception to this will be a potential transitional deal, removing the threat of a ‘cliff edge’ in which business has to adapt overnight to new customs and regulatory arrangements. This will depend on the ability of politicians on both sides of the table to maintain good relations. This is by no means a certainty given the stakes and the pressure from the media and public and the unstable political situation on the continent and in the US.

“Despite the prolonged uncertainty produced by the negotiations around Brexit, the UK economy will continue to surprise on the upside throughout 2017”.

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The UK economy will grow less strongly than in recent years but will still outperform most other developed nations Despite the prolonged uncertainty produced by the negotiations around Brexit, the UK economy will continue to surprise on the upside throughout 2017. Even though performance will be muted by the standards of recent years, it will continue to see growth at least on a par with a resurgent Eurozone – if not outpacing it. Confidence may begin to wane as the year progresses and some of the negative impacts of Brexit begin to take hold, but they are likely to be concentrated in certain sectors, such as retail and construction – where innovation and structural change will be accelerated. Financial services will remain the sector most concerned about the outcome of the negotiations. There may well be some high-profile relocations to the continent, but their scale will be relatively small.

Rising inflation – and potentially, market interest rates – will be the main economic story of 2017, and may start to affect the Brexit debate The falling pound has been, so far, positive for the UK economy – helping to support manufacturing exports and stimulating tourism, to the benefit of London retail and hospitality. During 2017, the negative side of this story will begin to emerge, as hedging mechanisms expire and import prices increase. The most obvious impact will be on retail, where companies will be forced either to pass on the increase, reduce their margin, or perhaps both. Alongside rising fuel prices, this could start to impact on wider business confidence. As consumers begin to feel the pinch, the terms of the Brexit deal could begin to change – assuming, of course, that Eurozone politics and economics remain relatively stable throughout the year. If the situation deteriorates – and relations between the US and the UK remain strong – Britain could strengthen its status as a safe haven.



Capital markets

Alistair Meadows Lead Director, UK Capital Markets [email protected] +44 (0)20 7852 4092

Total returns to remain positive with prime to out-perform secondary

UK funds and global institutions will return from a post-referendum pause

Post-referendum there have been many expected significant falls in capital values and negative returns for UK property. Values have quickly stabilised – and even risen slightly in the case of long-dated income and sectors such as logistics which continue to benefit from structural change in retail. In 2017 average total returns will be around 4%, with capital values broadly stable through the year. However, this will mask a divergence between prime and secondary. Prime yields will stabilise, but secondary values will be vulnerable to a slowing economy as investors focus more intently on core assets and occupier resilience. This could create longer term opportunities for value creation in the secondary market.

In the aftermath of the referendum, more conservative investors stepped back to assess the impact of the Brexit vote; UK institutions were impacted by a wave of redemptions in their retail funds, limiting their activity. In 2017, we expect both to gradually return to the market. Global institutions will be mindful of the fact that the UK has decoupled from a broader global trend of yield compression that continued in 2016. Pricing is now relatively attractive, and interest will gradually return provided that occupier markets prove resilient. As a result, volumes will remain in line with long-term averages, reaching around £45 billion over the year – similar to 2016.

Hong Kong and mainland Chinese capital will lead the charge in London London continues to benefit from sustained capital inflows from the Asia Pacific region and investors from Hong Kong are currently in the vanguard. Private buyers and property companies from Hong Kong and China are targeting London as they look to increase their overseas exposure, perhaps reflecting concern that regulatory changes may make it more difficult to deploy capital overseas in future. Many private buyers have also viewed exchange rate depreciation as an opportunity, and we expect this to persist in 2017.

Local authorities will continue to be active and private equity will make a comeback in the regional investment market The regional market has seen a substantial influx of capital from local authorities, which spent over £1 billion on UK property during 2016, led by Spelthorne Council’s purchase of BP Business Park in Sunbury for more than £350 million. Local authorities have been encouraged to become more entrepreneurial and are attracted to the income property offers given their low cost of capital. However, the recent upsurge of activity has generated significant attention, and we expect that central government will monitor their activities and management capacity more closely in 2017. On the other hand, private equity was less active during 2016 but discounts on secondary products will attract renewed interest in 2017 – although it remains to be seen how liquidity will come to the market.

The debt market is likely to become somewhat tighter, with lower Loan to Value ratios (LTVs), higher margins and stricter criteria applied to loans. However, while interest rates are likely to rise slightly, they will remain very low by historic standards, delivering all-in borrowing costs at between 3% to 4% at 60% of the funding stack. Competition will be maintained with larger investment managers in the insurance market putting life and third party managed funds to work in the senior and mezzanine debt space.

Investors will accelerate their focus on alternative sectors Uncertainty over the economic outlook and Brexit will accelerate the drive for investment in alternatives, where income streams are often less vulnerable to uncertainty surrounding the near term economic outlook. Strip income deals are growing in popularity and investors will be increasingly prepared to move up the risk curve as alternative markets mature and underlying operational businesses are better understood.

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Occupier Tom Carroll Director, EMEA & UK Corporate Occupier Research [email protected] +44 (0)20 3147 1207

Occupiers will be forced to adapt to uncertainty and volatility in 2017, with the outcome of Brexit the primary concern Occupiers will face a sustained period of rapid and dramatic change in their operating environments, with challenges spanning geopolitical instability, macroeconomic volatility and emerging cyber threats. For both domestic and international companies operating in the UK, the outcome of Brexit will remain the key concern. Business investment, hiring, location and portfolio decisions will remain under the spotlight as companies weigh the impact of any gradual clarification of regulatory, legislative and trading arrangements between the UK and EU. However, although some surveys have indicated additional caution, risk aversion and slowdowns in headcount growth and investment, the data is likely to remain mixed. For example 2016 also saw strong evidence of long term commitment to investment in London and the UK from international occupiers including Facebook, Google, Apple, Nissan and a number of others in recent months. 2017 will see the same, albeit with an increased focus on renegotiation and on building greater flexibility into lease terms and portfolio strategies. While there has been increasing evidence of contingency planning and data gathering exercises in alternative European locations, evidence of strategic relocation activity into the EU will remain limited in 2017.

Experience-led real estate will come to the fore in 2017 User experience will become an increasingly central part of real estate and workplace strategy in 2017. While the war for talent has been a driver of strategy for a number of years, it has risen in importance. Experience-led real estate is an established concept in retail, shaping design, layout and wider portfolio strategy. With a growing number of industries utilising real estate as a tool to attract and retain talent, a greater focus on user experience will become a competitive differentiator for firms looking to attract the new generation of digital natives and dependents. Ubiquitous connectivity and ever-greater flows of data will enhance the ability of occupiers to improve metrics and outcomes for users at a facility, workplace and portfolio level. Health and wellbeing will also become a more integrated part of overall design and strategy cementing links between HR and corporate real estate teams in 2017.

The sheer pace of change caused by technology will become more evident in real estate Technology and digital disruption will continue to reshape industries, organisations and real estate in 2017. Technology is redefining how and where we work. Faster connectivity, big data and artificial intelligence are just some of the technological advancements set to revolutionise real estate. We will see more companies review, optimise and future proof their real estate in response in 2017. There will be an increasing focus on smart buildings, new types of space such as incubators and accelerators and more tech-enabled space within existing envelopes. Integrated sensor and the Internet of Things technologies will drive more data-defined workplaces, moving towards adaptive design and personalisation. Greater digitization, dependence on technology and volumes of data will also bring cyber security more fully onto the agenda for real estate teams.

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“Faster connectivity, big data and artificial intelligence are just some of the technological advancements set to revolutionise real estate”.

Sustainability 

Sophie Walker UK Head of Sustainability [email protected] +44 (0)20 7399 5050

Enlightened city and regional leaders will unlock commercial opportunities from the green economy One certainty emerging from the Brexit vote – and the regional and demographic divides it highlighted – is that the government will redouble its efforts to create ‘inclusive economic growth’, with further devolution and greater investment in economies outside London. This will help enable strong local leadership, bringing with it significant commercial opportunities, including the transition to a green economy. Regardless of Westminster strategy, next year, we will see a new wave of powerful, regional mayors. Elections are due in May, including areas such as Greater Manchester, Liverpool City Region and the West Midlands. If the ambition of London’s Mayor is anything to go by – with Sadiq Khan aiming to make London one of the world’s greenest cities – this new tier of leaders could accelerate the transition to greener and smarter cities. Even outside the city level, 67 local authorities have recently committed to generating 100% clean energy across their boroughs. All these commitments bring commercial opportunity for those businesses that can provide green infrastructure solutions. The low carbon economy already generates £46.2 billion and supports 240,000 jobs, with over 25% of the turnover from real estate and construction. Critically, these jobs are already well dispersed across the UK, with the highest employment in the North West and South East, but there could be further opportunities to use the green economy to kick start local ailing economies. The Prime Minister has indicated that a new industrial strategy will include greater support for local industries, big infrastructure projects, house-building and much more. If the Business Secretary fully integrates the green economy into this strategy – whether it be in housing, transport or energy – then he could further unlock green-collar jobs, affordable energy, better health, lower emissions, and a reskilled generation.

Prudent landlords should act early on the minimum energy efficiency regulations The minimum energy efficiency standards - or “MEES” as they’re commonly known – will make it unlawful to let commercial buildings below an EPC rating of E from April 2018. At a time of such political unpredictability, some doubts have been raised as to whether the Government will actually implement MEES in 2018. Right now, the regulations remain on the statute book and we know that the Government intends to issue detailed guidance in early 2017. With the April 2018 deadline closing in, those asset owners who have been delaying action in the hopes of a legislative change will now need to rapidly review and plan in upgrades for poorly performing assets to avoid potential loss of income and a reduction in asset

value. In 2017, we also envisage more commercial landlords unpicking the provisions of existing leases to see how these affect their legal obligations or how they can deal with them. Many will find that existing leases do not place adequate restrictions on tenants around subletting or fit outs, obtaining voluntary EPCs, the recovery of any capital expenditure and rights to enter the building to make improvements for example. This will likely lead to some creative solutions working with tenants. There will also be other opportunities. For example landlords can increase rental and asset value by making energy efficiency improvements and combining these with other refit upgrades. Investors and developers may see acquisition costs fall for properties currently sitting below the minimum standard. This may add to the attractiveness of refurbishment projects over new builds in areas like London where the office market continues to perform very strongly.

Corporates and investors focus on tackling inequality Theresa May has made tackling inequality a key theme of her new government, and this has far-reaching implications for big business. Far from reducing workers’ rights, Theresa May is intent on expanding them. Three big talking points in 2017 will be the National Living Wage, Gender Pay Gap Reporting and the Apprentice Levy. Firstly, firms will need to adjust to higher wages. In 2017 the Government is likely to bring the minimum wage in line with the National Living Wage introduced in April 2016. The latter mandates firms to pay minimum hourly wages of £7.20 to workers aged 25 and above, ramping up to £9 by 2020. This is likely to have a significant impact on a sector that relies on low paid staff from cleaners to construction workers. Nevertheless some organisations such as The Crown Estate saw this coming and are already Living Wage Accredited, paying staff well above regulated levels. Secondly, firms with over 250 employees will need to get ready to publish details on the difference between their male and female employees’ pay. The new regulations, expected in 2017, will incentivise employers to take proactive steps to address gender inequality. Although firms won’t be expected to publish information until 2018, the first reports will relate to pay differences in 2017. With so much at stake, big firms will want to get under the surface of the data as early as possible, and have a proactive diversity and inclusion plan to get to the root causes of gender inequality. Finally, the government will stick to plans to introduce a levy on employers to help fund apprenticeships. The “Apprenticeships Levy” will be paid for by big businesses and while there are short-term risks this could help the industry’s chronic skills shortages – although it will take some years for this to have any meaningful effect.

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Offices 



Neil Prime Lead Director, UK Office Agency [email protected] +44 (0)20 7399 5190

Rents to come under pressure in London – but falls will be limited

Government property unit deals to headline regional office demand

Until mid-2016, rents across Central London were on a steep upward trajectory. The uncertainty following the Brexit vote initially made occupiers more cautious leading to a slowdown in both volumes and rental growth. However, this appeared to have reversed somewhat over Q4 with take-up reaching an unexpectedly high level, preventing vacancy rates from rising markedly. Recent prelets have also removed some of the speculative stock from the pipeline for the next two years. Given the current level of demand and space under offer, this momentum looks set to continue into 2017. Nevertheless, the activation of Article 50 in March is likely to reinforce the cautious approach taken by many occupiers – although for many this may come in the form of additional flexibility rather than withdrawal from the market.

Public sector requirements from HMRC and the GPU will boost regional office take-up in 2017. The latter is replacing its fragmented office stock with large scale cross-departmental workplaces, with the aim of implementing new technology and working practices. The HMRC is undertaking a separate exercise to consolidate it’s regional footprint. Given the focus on high quality buildings in city centres, the big six markets will see a number of high-profile public sector deals. This will help counter the impact of slower economic growth on regional office demand, and also help absorb the higher level of speculative development scheduled to complete in 2017.

Meanwhile, the rise in completions, while not as large as might be expected before Q4’s activity, will increase choice for tenants. This should provide additional pressure on rents and incentives, but the overall impact is likely to be limited, and will vary by location. Rents may come under a very different form of pressure from 2018 onwards if supply continues to become more constrained.

Contrasting sectorial mix and supply conditions will guide London sub-market performance More subdued market conditions will lead to divergent performance within London’s sub-markets depending on their respective supply levels, demand mix and price point. Sub-markets with a low vacancy rate, a limited speculative pipeline, an ability to appeal to a broad range of occupiers, good transport links, and a lower business rates increase in 2017 will fare better, seeing limited rental depreciation, if any. On this basis, areas such as Southbank, Covent Garden and King’s Cross will be among the most resilient in the near term while sub-markets more reliant on the financial sector are more likely to underperform. However, this may be limited if a transition deal involving passporting is agreed early in the Brexit process. Increased tenant mobility will also continue to dilute the dependence of certain markets on financial services.

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“The uncertainty following the Brexit vote initially made occupiers more cautious leading to a slowdown in both volumes and rental growth”.

Retail Tim Vallance Lead Director, UK Retail & Leisure [email protected] +44 (0)20 7318 7838

Retail sales will be under pressure as macroeconomic drivers bite Consumer spending has been one of the driving forces of the UK recovery, with household expenditure rising 2.7% in 2016, the fastest pace since before the financial crisis. UK households have benefitted from record low inflation and real wage growth. This will change in 2017 with inflation expected to rise to between 2% and 3% above wage growth which stands at c.2%, and consumer confidence now being below the levels seen after the EU referendum. This will have an impact on disposable incomes and sales growth. As a result, UK Retail Sales growth is forecast to dip to 2% in 2017, from an average of 4.1% over the last three years, according to Oxford Economics. However, the reduction in consumer spend will not be uniformly felt across the country, with major retail centres likely to demonstrate ongoing resilience, at the expense of less relevant centres that have been slow to respond to both cyclical and structural change.

Uncertainty for investors, but opportunities emerge In 2016 the retail investment market saw volumes down by £5 billion on the previous year, driven predominantly by the uncertainty around the EU referendum vote. The initial reaction, immediately postreferendum was a ‘wait and see’ approach. However, falling rents, the rating revaluation and the weak pound may create opportunities in 2017. The general weight of global investment capital will penetrate the retail market nationally as investors search for secure income and growth through asset management. In particular, trading volumes will increase in the secondary shopping centre, retail warehouse and high street markets.

‘Perfect storm’ for retailers, but resilience prevails In 2017, retailers will endure a ‘perfect storm’ of rising inflation, labour costs, import costs and in some cases business rates and ongoing ecommerce–led structural change. This will be in addition to a potential reduction in consumer spend. In particular, rising import costs as a result of post-referendum currency fluctuations may have to be passed onto the consumer, or retailer margins will be cut. Larger retailers will be better positioned to bear the impact, offsetting it by currency hedging (although hedging will unwind), and economies of scale. Retailers will also have to contend with rising employment costs in 2017, with the National Living Wage set to increase in April and in the same month, the next rating revaluation will also come in to effect. Generally prime locations, such as Central London, will experience steep increases in their liabilities. By contrast, secondary locations, especially in the north and west of the country, may see a fall, although there are exceptions. In some cities such as Birmingham, the introduction of new space will lead to reducing rates in previously prime pitches.

...“UK households have benefitted from record low inflation and real wage growth. This will change in 2017 with inflation expected to rise to between 2% and 3% above wage growth which stands at c.2%”...

Despite these headwinds, relevant and innovative retailers with customer-centric digital strategies, strong cost management, and a well-located store portfolio, will continue to prosper.

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Industrial 

Richard Evans Director, Industrial & Logistics [email protected] +44 (0)20 7399 5223

Occupier demand will remain above the long-term average, with limited supply supporting rental growth despite the slowing UK economy Vacancy rates will remain low in many markets, and there is no sign of this easing in the foreseeable future. 2017 will see continuing pressure on industrial land in many cities and towns linked to growing housing need. This pressure is most acute in London which has been losing its industrial land at a far faster rate than envisaged. As a result in the capital we are seeing more interest in the intensification of industrial development. 2017 could see the first proposal for a multi-storey ramped warehouse development for 10 years. There will also be greater demand for local delivery centres and parcel centres in urban areas, driven by online retail and same-day delivery services. There could be further consolidation in the delivery sector, together with new entrants such as UberRUSH.

Industrial will deliver the highest total investment return of the commercial sectors in 2017

Labour will become an even more central issue in 2017 Despite a huge focus on the implications of new technologies and innovations – particularly autonomous vehicles and drones – labour will remain a critical success factor for logistics operations in 2017 and beyond, which corporates, developers and investors ignore at their peril. The latest estimates from the Freight Transport Association put the current national shortage of Large Goods Vehicle (LGV) drivers at around 35,000, and many established logistics locations have unemployment rates below the UK average. Strong logistics locations require a combination of good physical infrastructure, strong human infrastructure and market access. There are some concerns that Brexit may exacerbate labour supply issues in many industries that rely significantly on EU workers, given that the UK is unlikely to remain in the Single Market as this includes the free movement of people across the EU. One potential way around this may be for the government to adopt a work-permit system to enable EU and foreign workers into the UK as required by different industry sectors.  

This will be driven by a combination of a high income return and ongoing rental growth, which will be the highest of any sector. It will remain the strongest performing sector up to 2019. As a result, it will continue to attract strong investor demand from both domestic and international capital.

...“2017 will see continuing pressure on industrial land in many cities and towns linked to growing housing need”...

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Residential

Andrew Frost Lead Director, UK Residential [email protected] +44 (0)20 7087 5566

New build starts will hold at just below 2016 levels across the UK as a whole - but will fall dramatically in London, where need is most acute

Price growth will be subdued in London, with 0.5% increase forecast for the UK, rising to 1% in London – although the big regional cities may outperform

Legislative changes, such as stamp duty, and the uncertainty around Brexit have led to weaker investment demand from overseas as well as domestic buyers. Alongside an overstretched owner-occupier market, this will keep a lid on price pressure. At the same time, build costs will see significant inflation as the devalued pound sterling hits imports while the Mayor has continued to push for bigger affordable housing contributions. As a result, in contrast with the nearly 24,000 homes built in London during 2015, 2017 levels are expected to fall back closer to 16,000. The challenges for the Mayor to use public land, planning and investment to stimulate supply are steep. There is much to be encouraged by so early on in his tenure, but his oft-used phrase of ‘it’s a marathon, not a sprint’ is only too true. A strong, stable political backdrop for housing policy aligned with the creation of the new London Plan and Government White Paper will be an important handrail for an industry in need of guidance.

Prime London is also expected to be flat as a result of ongoing repricing that has taken place since Q3 2015. Very little house price growth is expected over the year as the country absorbs Brexit uncertainty and knock-on impacts to consumer price inflation and affordability, which is already stretched. There will be hotspots however – notably in the stronger city regions of Manchester, Edinburgh and Birmingham. Manchester city centre has experienced weak supply levels over the past few years, pushing up prices and rents by circa 15% and 11% respectively in 2016 with little relief expected in 2017. In Edinburgh, the suburban family homes markets are all seeing strong demand while Build to Rent in the city centre and towards Leith is taking shape. Birmingham, beneficiary of the first big Housing Growth Fund investment into 2,000 new homes, is also finding renewed attention after having been overlooked by large-scale residential investors in favour of Manchester coming out of the downturn.

2017 will be the year in which innovative techniques begin to be used much more widely in residential construction Off-site construction will be at the forefront of this; anchored by the first large-scale factory in the UK that will come on-line in 2017, the industry is finally getting serious about the need to ‘modernise or die’ as the Farmer Review so directly puts it. With a shrinking and destabilised workforce, the need to go off-site will become ever more critical and the first big steps will take place in 2017. Aligned with this shift, and perhaps just as important, is the need for greater adoption of Building Information Modelling (or BIM). A standard requirement for public sector construction, BIM has not been widely adopted in the private sector, other than in 3-D modelling at design stage. However, BIM can produce a level of cost certainty that is not possible with traditional build methods as well as even more significant savings through more accurate and standardised procurement and postcompletion feedback loops.

“Legislative changes, such as stamp duty, and the uncertainty around Brexit have led to weaker investment demand from overseas as well as domestic buyers”.

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Alternatives Ollie Saunders Lead Director, Alternatives [email protected] +44 (0)20 7087 5843

Volumes in the alternative sectors will continue to grow, with some sectors even seeing yield compression

There will be increased polarisation within the market in terms of asset quality

With the mainstream commercial market coming under pressure, the long dated income available in the alternative sectors will continue to attract investors looking for stable income. As demographics are the main driver for many of these sectors, they are unlikely to be as affected by short-term economic issues. Furthermore, many new entrants have now gained a greater understanding of operating businesses and are more prepared to increase the level and scale of their exposure. The sector expected to see the most growth is the Private Rented Sector. Institutional investors are seeking to increase their positions in 2017, as are the private equity backed operators and developers. So far the sector is being held back by inconsistent levels of supply but the new government has accepted that PRS has a role to play in solving the current housing crisis and the anticipated entrance of US multi-family operators this year would give the sector a significant boost. A number of student housing operators are also considering entering the PRS market and have developed a stronger understanding of how to manage a large number of Assured Shorthold Tenancies (AST’s) effectively.

While some international buyers have taken advantage of recent currency fluctuations, many of the larger investors are waiting for £500 million+ assets to be refinanced. In many of the alternative sectors, the yield gap for secondary and tertiary assets is likely to shift wider as existing prime assets are only going to improve in terms of pricing. Many Private Equity investors are now looking for a degree of yield risk and so opportunities to invest in well located existing assets in need of modernisation will be in demand. Buyer demand in many markets is being hindered by a lack of adequate supply or appropriate operating partners. In the absence of widespread development activity, further consolidation is likely with new entrants seeking established businesses in good locations to gain a foothold in the UK market. This is reflected in the record purchase of Big Box Storage by US self-storage operator StorageMart for more than £100 million in October 2016.  

There will be an increase in the number of partnerships between operators and long-term funders The wariness produced by the new lease accounting regulations, due to come into force in 2018, has led to increased interest in minimising balance sheet implications with significant interest in off balance sheet structures as opposed to straightforward occupational or finance lease deals. Investors in the alternative sectors have developed a better understanding of how their markets work and as such are moving away from covenant backed deals in favour of key fundamentals. The number of leases with an element of income based on turnover are set to increase, leading to the disposal of poor assets in nonperforming locations regardless of the operating partner.

“Many Private Equity investors are now looking for a degree of yield risk and so opportunities to invest in well located existing assets in need of modernisation will be in demand”.

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Construction & development Helen Gough Lead Director, Building Consultancy, Cost Management & Project Management [email protected] +44 (0)20 7087 5090

Construction growth will slow over 2017, with the public sector, infrastructure and housing offering potential bright spots The UK’s vote to leave the European Union has led to significant political uncertainty and with further turbulence looming in 2017, it is likely the UK will see slower construction growth in the near term. Commercial construction activity for the last 12 months to the end of Q3 fell to £19.4 billion, down 12.4% compared to the previous quarter. Whilst only a handful of major projects have stalled post-referendum, construction growth looks set to moderate in 2017 with investment intentions easing and appetite for capex risk impacting investors, occupiers and developers. The outlook for construction activity will brighten if the government follows through with its commitment in the Autumn Statement to spend £23 billion on innovation and infrastructure and unlock funding for affordable homes and private house building. Aspects of alternative sectors, notably Education and Healthcare, may offer further bright spots given they benefit from structural and demographic trends, which are independent of shortterm economic and political conditions. The government’s Northern Powerhouse and Midlands Engine projects aimed at strengthening investment and devolving political power will also provide a boost for UK regional markets in the longer term. While certain segments of the construction industry may show hesitancy in progressing new starts, this is unlikely to alleviate labour or capacity pressures in the short term given many contractors’ order books are full through 2017. An ageing construction workforce and the government’s decision to progress with the apprenticeship levy could further undermine labour supply in the short term. Skills shortages may be further exacerbated in the coming months given recent government rhetoric around immigration policy, combined with the effects of the falling pound on the earning power of EU workers in their domestic currencies. Meanwhile, sterling exchange rates against the Euro and USD have fallen significantly, and this will increase the price of imported materials. Forecasts from the Building Cost Information Service indicate construction costs will rise by 3.1% over the first year of the forecast period (2Q16- 2Q17), and by 3.3% over the second.

Refurbishment will present opportunities for investors and occupiers Increased volatility will influence confidence, access to finance and views on risk, which may result in a decrease in new speculative development starts. Developers may look towards more strategic refurbishments, given quicker speed to market and greater certainty of delivery than costlier new build projects. There is a significant opportunity to repurpose second-hand space, particularly in the offices sector, where new space accounts for just 20% of availability in the major UK office leasing markets monitored by JLL. Uncertainty will also encourage companies to extend leases rather than signing up to new commitments. Over 2017-18 there will be over 10 million sq ft of lease expiries within the Central London office market alone. We can expect more refurbishments in situ and partnership approaches between investors and occupiers to alleviate risks for both parties, despite the inevitable upheaval. Structural factors will also intensify the need for strategic refurbishment programmes, not least impending sustainability regulation. A greater focus on user experience could also lead to more corporates investing in refurbishment and layout.

Technological disruption will drive smart solutions to industry pressures The construction industry is ripe for transformation. Low productivity, squeezed margins and a lack of investment in innovation are just some of the criticisms levelled at the sector in the latest governmentcommissioned Farmer Review. The report specifically calls on the industry to invest in innovation to secure its future. As emphasised, we anticipate enormous innovation in the residential market but the challenge will be to make this scalable at the commercial level. Innovation in construction methods, such as off-site fabrication will present opportunities to enhance efficiency and alleviate skills pressures. Creative use of materials, such as mass timber, are coming to the fore with the potential to deliver cost and programme savings coupled with experiential and sustainability benefits. Increased uncertainty and volatility will mean commercial space, particularly offices must also become more flexible and suitable for cost effective redesign. A more modular approach will make buildings easier to repurpose further down the line, allowing them to adapt to the evolving needs of users. There is a need to consider in building design the increased focus of the impact of the built environment on human health and well-being. Meanwhile, building information modelling (BIM), Smart Building Technology, 3-D space capture and visualisation and 3-D printing will enable more innovative designs. UK developers must embrace this new wave of innovation to compete effectively on both cost and quality.

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