THE UK COMMERCIAL PROPERTY ANALYST

THE UK COMMERCIAL PROPERTY ANALYST Q The sweet spot is not over yet GDP will grow by at least % each year to, pushing up rental values and underpinning investors confidence. But yields are falling fast and will reach a floor sooner than we previously thought, which will front load returns. Capital values on track to rise by % this year, but much slower, rent-driven gains are likely from onwards.

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THE UK COMMERCIAL PROPERTY ANALYST Q Economic Analysis for UK Commercial Property Investors, Developers, Lenders and Brokers th August The sweet spot is not over yet Executive Summary Main Forecasts The Investment Market - Economic Drivers The Investment Market - Property Investment Outlook Office Occupier Market Retail Occupier Market Industrial Occupier Market Leisure and Hotels Sectoral Rankings Chart Bank The UK Commercial Property Analyst Q

Executive Summary Our economic forecasts are broadly unchanged from the previous Analyst, so our expectation of sure and steady commercial property rental value growth over the forecast period remains the same. But yields continue to fall sharply and we have penciled in a bigger drop in than we assumed three months ago. This means that capital values could now grow by about % this year, but the flipside is that the gains in - will be smaller than otherwise. from 9% to %. In other words, property s sweet spot is not over yet. But that would leave yields in most sectors well below their long-run average by the end of the year, limiting the scope for further falls. And, of course, interest rate rises from early will tend to have a similar effect. Indeed, we have penciled in modest rises in property yields over - as monetary policy resumes a more normal stance. For a start, the economy has continued to expand at a reasonable pace and GDP could grow by as much as.% this year and by % in both and. Employment is likely to rise further and we expect earnings growth to accelerate over the next to months. But although economic activity will be healthy, spare capacity will not be absorbed overnight. Therefore, inflation is set to be below the MPC s % target throughout the next year or two, meaning there is no pressure for Bank Rate to be raised sharply. However, the first interest rate rise is now on the horizon, probably in the first quarter of. Even so, with the prospects for rental values positive, this upswing in capital values will not go into reverse anytime soon. Indeed, capital value growth is still set to average about % a year over -, only a touch lower than our previous forecast of %. In other words, the profile for capital values now looks a little different, but not the overall performance. After last year s figure of %, total returns should be about 9% in and % in. The changes to the future profile for yields mean that total returns have been brought forward from later in the forecast period to and early. The robust economic backdrop has boosted property investors confidence and the downward momentum in yields has been stronger than expected. We now expect a fall in all-property yields this year of about bps rather than the previously predicted bps. Combined with the steady acceleration in rental values, the changes to our yield forecast mean that we have increased our prediction for all-property capital value growth this year At the sector level, underpinned by solid rental growth prospects, in London and the South East, as well as industrial and leisure property across the UK more generally, are likely to outperform. By contrast, given that it will take some time for rising occupier demand to absorb an above-average amount of empty space, the recovery in retail rental values will be slower to get into its stride. The UK Commercial Property Analyst Q

Main Forecasts TABLE : KEY COMMERCIAL PROPERTY FORECASTS, YEAR-END f f f 7f f - - ALL PROPERTY Rental value growth, % y/y.9....... End yr equiv. yield, %........ Capital value growth, % y/y........ Income return, % y/y........ Total return, % y/y. 9. 9.. 7. 7... OFFICE PROPERTY Rental value growth, % y/y..9.....7. End yr equiv. yield, % 7........ Capital value growth, % y/y 7..7...... Income return, % y/y..7...... Total return, % y/y...7 9. 7.... RETAIL PROPERTY Rental value growth, % y/y -........ End yr equiv. yield, %..9.9..... Capital value growth, % y/y....7...9.7 Income return, % y/y.9.9...... Total return, % y/y.. 7.7 7. 7. 7.. 7. INDUSTRIAL PROPERTY Rental value growth, % y/y.7....7...9 End yr equiv. yield, % 7.9 7. 7. 7. 7. 7. 7. 7. Capital value growth, % y/y.7....... Income return, % y/y 7. 7....... Total return, % y/y....7... 9. LEISURE PROPERTY Rental value growth, % y/y -........ End yr equiv. yield, % 7........ Capital value growth, % y/y.7....... Income return.....9.9.. Total return, % y/y 9.7.7... 7...9 HOTELS PROPERTY Rental value growth, % y/y........ End yr equiv. yield, %........ Capital value growth, % y/y......7.7. Income return.......9. Total return, % y/y 9.. 7.. 7...7 7. Sources Capital Economics, IPD TABLE : KEY UK ECONOMIC FORECASTS, YEAR-AVERAGE f f f GDP, %y/y..7... -yr swap rate, % (end-period).....7 -yr gilt yield, % (end-period)..... CPI inflation, %y/y..... $/ (end-period)..... Euro/ (end-period)...7.. Financial & business service sector output, %y/y..... Manufacturing output, %y/y -.7 -.7... Household spending, %y/y....7. Unemployment rate (ILO measure), %. 7.... Employment, %y/y..... Average earnings, %y/y..... Nationwide house prices, %y/y in Q -.. 9... Sources Capital Economics, Thomson Datastream The UK Commercial Property Analyst Q

The Investment Market Economic Drivers Bank Rate set to rise from early Momentum in the UK economy is strong, with GDP rising by.% in successive quarters. We think growth is on track to be almost.% this year before easing to a still-impressive % in both and. (See Chart.) Admittedly, although the adverse effect on growth is less than it was during -, the fiscal tightening process will run for several years yet. (See Chart.) That will result in a slower rate of economic expansion than otherwise. But the prospects for other parts of the economy are positive. To be fair, despite the strong gains in employment, average earnings growth is weak, which has restrained consumer spending. But recent survey data at least suggest that wage growth could be about to accelerate more meaningfully. (See Chart.) Indeed, combined with our expectation that jobs growth will remain healthy over the next year or two (albeit lower than GDP growth, thus allowing productivity to start recovering), an improvement in earnings growth will help consumer spending to expand steadily. We expect gains of between % and % each year over -. (See Chart.) Business investment should also fare well. Since the financial crisis, the corporate sector has accumulated considerable cash reserves and there are signs that firms are preparing to use that firepower. As Chart shows, investment intentions for both manufacturers and services sector firms are positive. The external sector also looks set to support economic growth. Admittedly the recent rise in the pound will tend to be a headwind for exporters, but the previous fall in the exchange rate did not prompt a surge in export volumes, so it is not obvious why a rise should have a material adverse effect now. Indeed, the more significant influence is simply the health of overseas markets, and our forecasts for GDP growth in the UK s main trading partners point to scope for solid export growth. (See Chart.) Although the prospects for economic activity are good, it will take some time for spare capacity to be absorbed, so we do not expect much in the way of price pressures over the next few years. Indeed, the headline rate of CPI inflation could well be below the MPC s % target throughout and, falling to as low as %. (See Chart 7.) Even so, the process of tightening monetary policy from its current ultra-accommodative position is set to begin with a bps rise in Bank Rate in the first quarter of. (See Chart.) Yet this tightening cycle will still be slow by past standards, with interest rates eventually rising to a new normal that is lower than before. Increases in benchmark -year government bond yields will also be slow in an historical context. The UK Commercial Property Analyst Q

The Investment Market Charts : Real UK GDP : Change in Fiscal and Monetary Stance (% of GDP). Loosening Fiscal Policy CE forecast. Monetary Policy. -. - - -. - %q/q (RHS) - - Tightening %y/y (LHS) -. - - - -. 9/ / / / / / / /7 7/ /9 : Permanent Salaries Survey and Average Earnings : Real Consumer Spending (%y/y) 7 REC Report Permanent Salaries Index (Adv. mths, LHS) 7 Average Earnings (Excl. Bonuses, %m y/y, RHS) CE forecasts - - - 7 9 9 9 - - - - - - : Investment Intentions (Bank of England Agents Scores, Range from - to +) - - - - Manufacturing Services - 99 - - - - - - - - - : World GDP and Export Volumes Growth (%y/y) GDP in UK's largest export markets weighted by share of UK exports (LHS) UK total exports volumes (ex. MTIC fraud, RHS) Forecast 9 9 9 9 - - - - - 7: Consumer Price Inflation (%y/y) : Interest Rates and Bond Yields (%) Headline CPI inflation Core CPI inflation % target Forecasts 7 9 7 -year swap rate -year gilt yield Bank Rate CE forecast 7 9 7 7 Sources Thomson Datastream, OBR, REC/KPMG, Bank of England The UK Commercial Property Analyst Q

The Investment Market Property Investment Outlook Yield falls likely to end sooner rather than later Property yields have continued to fall steadily and many forecasters expectations (ours included) for the decline in as a whole have already been matched or surpassed. There are good reasons to think that yields will continue to decline, so we have revised our forecasts. But further yield falls this year will effectively bring forward property returns from subsequent years. Compared with other assets, it is not obvious that property yields have already fallen too far. Granted they might be starting to look a touch low against equity dividend yields. (See Chart 9.) But even bearing in mind the ultra-low levels of bond yields, property yields do not look tight by comparison. (See Chart.) Meanwhile, inflows of money from retail investors into pooled property funds have remained strong in the past few months. (See Chart.) As this equity is put to work in the market over the coming months, yields are likely to face further downward pressure. risk premiums have scope to fall. (See Chart.) Hence, so do property yields themselves. Any yield falls are unlikely to be limited just to prime and good secondary property. After all, our GDP forecasts point to scope for the spread between yields across the full spectrum of non-prime property and those on prime stock to drop. (See Chart.) In turn, that implies falls in non-prime yields. However, the recent pace of yield falls - about bps per quarter at the all-property level - cannot be sustained for long. Indeed, yields are already below average in the vast majority of segments. (See Chart.) In addition, recent snippets of anecdotal evidence suggest that some investors are growing wary about how far yields have fallen already. The recent sluggishness of real estate equity prices certainly suggests that investors confidence might have reached a plateau. (See Chart.) The supply of debt finance should also continue to improve gradually. After all, commercial property s share of outstanding debt has returned to a level with which lenders seem more comfortable. (See Chart.) Accordingly, they are likely to be increasingly willing to approve new loans. In addition, with the rental value recovery gathering steam and becoming more broadbased, over-renting on existing leases is falling and reversionary potential is rising. On past form, the net position suggests that investors Overall, we think all-property yields could fall by between bps and bps in the rest of this year, taking the fall for as a whole to about bps. But whereas we previously expected a further drop in yields in, we have now penciled in no change. Moreover, as the interest rate tightening cycle becomes clearer as progresses and we move into, the risks to property yields are probably tilted slightly to the upside. Indeed, modest rises in property yields over - are now factored into our forecasts. The UK Commercial Property Analyst Q

The Investment Market Charts (Continued) 9: All-Property Initial Yield Minus FTSE All Share Equity Dividend Yield (%-Points) : All-Property Initial Yield Minus Nominal -Year Government Bond Yield (%-Points) CE forecast CE forecast Property looks expensive IPD all property initial yields less FTSE All-Share dividend yield, % 9 9 9 9 9 - - - Property looks expensive IPD all property initial yields less yields on -year gilts, % - 9 9 9 9 9 - - - - : Net Inflows From Retail Investors to UK-Domiciled Property Unit Trusts/OEICs ( m Per Month) - - -9 are monthly averages from annual data Q to Q are monthly averages from quarterly data October onwards are monthly data 7 9 - - : Lending to Commercial Property Lending to property as a % of total loan book (LHS) Net new lending to property, bn (RHS) 9 7 7 9 9 9 9 97 99 7 9 - - - - : Reversionary Potential Less Over-Renting And Property Risk Premium (%-Points) - - - "Safe" income rises; risk premium falls - Reversions minus over-renting, adv. year (LHS) Implied property risk premium, inverted (RHS) - 7 9 : GDP and Change in Non-Prime/Prime Yield Spread - GDP growth above %y/y; yield spread falls Forecast - - - - Real GDP (%y/y, LHS) - - - Annual change in non-prime/prime yield - spread (bps, inverted, RHS) - 7 9 : Initial Yields (%-Points Difference From -Year Average) : Real Estate Equities and All-Property Capital Values.. -. -. -. -... -. -. -. -. - - - - - - - Real estate share prices, %y/y, adv. m (LHS) Capital value growth, %y/y (RHS) 9 9 9 9 9 - - - - - - - Sources IPD, Thomson Datastream, IMA, Bank of England, IPF 7 The UK Commercial Property Analyst Q

The Investment Market Property Investment Outlook (Cont d) Rising rents will drive sustainable capital gains However, although the medium-term risks to property yields may be a little to the upside, the economic upswing is likely to be sufficiently robust to keep rental values growing steadily. And this should outweigh the influence of any small rises in yields, allowing capital values to increase throughout the forecast period. sufficient to prevent this upswing in capital values from going into reverse. In turn, after rising by % in, allproperty total returns could approach % this year before easing back to % in and an annual average between 7% and % over -. (See Chart.) Certainly, RICS surveyors near-term expectations are that rental growth will continue to accelerate nicely. (See Chart 7.) And longer term, as Chart shows, our GDP forecasts point to scope for modest growth in real property rents. That implies gains in nominal rents of at least % to % a year. There should also be rental value increases in all regions and across the various quality grades of property. Indeed, even the lowest quality (i.e. high-yield or tertiary) stock is already seeing rental growth. (See Chart 9.) And all regions should experience a solid expansion in economic activity over -. (See Chart.) Overall, we have not changed our forecast that all-property rental values will rise by an annual average of % over -. But the revisions to our yield forecasts mean that capital values are now on track to rise by about % this year (previously 9%). Thereafter, the pace of capital value growth will decelerate sharply as yields find a floor and then perhaps start to edge up. (See Chart.) But it is also important to note that medium-term rental value growth should be Even after the changes to our yield forecasts, total returns should still average % a year over the five-year forecast period, little different from our previous expectation. But the profile of those returns now looks different, with stronger but the following years weaker. Our expectations also remain above the consensus. (See Chart.) At the sector level, in London and the South East should continue to fare well, underpinned by strong rental value growth. But the industrial and leisure sectors will also deliver decent returns. (See Chart.) Retail property, by contrast, will generally continue to underperform, held back by the need for rising occupier demand to absorb excess space before a more marked upturn in rental values can get underway. Perhaps the biggest risk is of yields being pushed down too far over the next year or so, increasing the vulnerability of the market to a sharper-than-expected rise in interest rates. But with the rental outlook solid, we are fairly sanguine about that risk. The UK Commercial Property Analyst Q

The Investment Market Charts (Continued) - - - - - - -7 - -9 7: RICS Surveyors Rental Expectations and All-Property Rental Values RICS rental growth expectations, % bal., adv. qtrs (LHS) IPD all-property rental growth %y/y (RHS) - - - - - : GDP and Rental Values Real GDP growth %y/y (LHS) Real all-property rental values, %y/y (RHS) - - - - CE forecast - 97 97 9 9 99 99 - - - - - - 9: All-Property Rental Values (%y/y) : CE Forecast for GDP Growth (%y/y) - average - - - - - Prime - - Secondary - - Tertiary - - - WM SE Ldn NW Sc East EM SW NE Y&H NI Wal : Contributions to All-Property Capital Value Growth (%-Points) Impact of rental value growth Impact of yield movements Capital value growth CE forecasts - - 7 - - - - - - 97-7 99-7 : All Property Total Returns (%y/y) Nominal Real CE Forecasts 9 - - - - - - - : All-Property Capital Values (Indexed, 99=) : Forecasts for Capital Value Growth (%y/y) Capital Economics IPF Consensus Forecasts Series - - 99 99 99 999 7 Sources IPD, Thomson Datastream, RICS, IPF 9 The UK Commercial Property Analyst Q

Office Occupier Market No end in sight for the Central London rental upswing Our forecasts for Central London s core office markets are broadly unchanged. Rental value growth in both the City and West End is likely to remain strong in both and, although a slowdown is likely thereafter as developers respond with new supply. Take-up across the Central London office markets has been robust in recent quarters while net stock absorption in the first half was the highest in both markets for at least four years. (See Chart.) This momentum in occupier demand bodes well for rents in the near term. Similarly, for the West End, continued increases in the employment balance from the CIPS/Markit services PMI point to considerable scope for office rental growth to rise further. (See Chart.) Turning to the supply side, with the Cheesegrater and Walkie Talkie now effectively completed, the peak for this development cycle has more or less passed. Indeed, the lack of space under construction and due for completion next year, as shown in Chart 7, will be a further factor behind continued London office rental value gains. Indeed, consistent with healthy demand, vacancy rates in both the City and West End are comfortably below their long-run averages and, in fact, have edged lower in recent months. (See Chart.) Moreover, the latest RICS data suggest that the risks to vacancy rates are still to the downside. (See Chart.) In other words, there is no sign that upward pressure on rents is about to ease. That message is reinforced by the results of the latest CBI/PwC Financial Services survey. A composite indicator from this survey, covering both output and employment, suggests that Central London office rental values will continue to accelerate in the second half of the year. (See Chart.) That broad message also applies to individual markets. As Chart shows, the continued strength in financial & business services sector jobs growth points to accelerating City office rental value growth over the next nine months. But the proposed development pipeline for onwards is starting to be replenished and continued rental growth in the near-term should see this proposed space moved forward to the construction stage. This fresh supply response underpins our forecast that rental growth in both the City and West End will cool from onwards. Overall, we expect West End office rental values to grow by % in as a whole and by % in. The figures for the City are 9% and 7% respectively. In both markets, our forecasts are a touch above, or, at worst, broadly in line with the prevailing consensus. (See Chart.) Over -, as the new supply comes onto the market, rental growth should fade to an average of % or % per annum in both main Central London office markets. The UK Commercial Property Analyst Q

Office Occupier Market Charts..... -. -. : Net Stock Absorption (Square Feet, Millions) : Central London Office Vacancy Rates (%) Series. City City. West End West End. Long term averages.. -. -. -. H H 7 H H 9 H H H H H -. 9 : RICS Availability Balance and Central London Office Vacancy Rates Central London office vacancy rate, % (LHS) : Financial & Business Services Sector Jobs and City Office Rental Values 7 - - - - - Surveyors reporting a rise in availability, % balance, adv year (RHS) FBS jobs, %y/y (adv. 9m, LHS) City office rental values, %y/y (RHS) 9 9 9 9 9 7 - - - - - - - - - : Composite CBI/PwC Financial Services Indicator and IPD Central London Office Rental Values - - - - Composite net % balance (-qtr mov. avg., adv. m, LHS) Central London office rental values, %y/y (RHS) 99 997 9 : CIPS Services Sector Employment Balance and West End Office Rental Values CIPS employment balance, m average (adv m, lhs) IPD West End office rents, %y/y (rhs) 97 99 7 9 - - - - - - - - - - - - - 7: London Office Space Under Construction (Sq. Ft., Millions) : Office Rent Forecasts (%y/y)......... City West End Series Under construction........... - Forecasts CE West End Consensus West End CE City Consensus City Sources Colliers, CBRE, DTZ, JLL, RICS, CBI/PwC, IPD, ONS, CIPS/Markit, Deloitte, IPF - The UK Commercial Property Analyst Q

Office Occupier Market (Continued) The regional recovery is increasingly robust The office market recovery outside London is also gathering steam, both in the South East and across the rest of the UK. Rental growth of at least % per annum is likely across most regional office markets over the forecast horizon. Starting with the South East, all near-term indicators are positive. Rental value growth of about % a year is already stronger than it was at any point during the mid-s' upswing, with the gains broad-based across the various quality grades of office property. (See Chart 9.) Vacancy rates are trending lower, and in the M and M corridors, for example, they are back at or below the troughs prior to the credit crunch. This all bodes well for rental values in the near term. communications and public administration) outside the South East point to further growth in Rest of UK office rents. (See Chart.) Admittedly, there is more availability among the existing stock of in most regions than in the core South East and London markets. Even so, the lack of construction since means that competitive pressure has re-emerged quickly for the best regional office space, especially in the main cities (e.g. Manchester). And to the extent that the remainder of the empty stock is effectively obsolete, it will not be weighing on market rents. In other words, we doubt that any overhangs of empty office space will be a major impediment to higher Rest of UK office rental values. Demand-side indicators also point to good prospects for South East office rents over a longer horizon. Certainly, the recent strength in employment growth suggests that the pace of rental gains could accelerate further. (See Chart.) Bringing this together, our forecast is that Rest of South East office rents will rise by % or % each year from to, with growth slowing a little thereafter. The Rest of UK segment should see gains of about % this year and closer to % in -. In addition, the level of office rents in the South East is still between % and % below past peaks, implying further headroom for continued gains. In other words, at the moment this is a sweet spot in the market. Elsewhere, the rental recovery in the Rest of UK office segment may take longer to get into its stride than the South East, but the outlook is positive. Certainly, the gains already seen in office-based jobs (including financial services, professional & business services, information & Overall, solid rental growth and a fall in yields will both contribute to a gain in all-office capital values of close to % this year. As yields find a floor in (and then edge up over - as base interest rates rise), capital value growth will slow, but a sustained rise in rents will mean that they continue to increase over the forecast horizon. (See Chart.) Total returns will also peak this year, then dip from -. (See Chart.) The UK Commercial Property Analyst Q

Office Occupier Market Charts (Continued) - - - - - 9: South East Office Rental Values (%y/y) Table : CE Office Sector Forecasts (%y/y, Year-End) Prime Secondary f f f 7f f Tertiary All - : South East Employment and Office Rental Growth (%y/y) - - - - Employment (adv. m, LHS) Rental values (RHS) - 99 99 999 - - - - - - - - - - - Rental value growth..9.... End yr equiv. yield, % 7...... Capital value growth 7..7.... Income return..7.... Total return...7 9. 7.. London City % of office stock by value Rental value growth. 9. 7.... End yr equiv. yield, %..7.7...9 Capital value growth 7.9. 7.... Income return.....9. Total return... 9. 7.. London West End % of office stock by value Rental value growth.7..... End yr equiv. yield, %..9.9... Capital value growth. 9. 7..7.. Income return.9..... Total return.....9. : Rest of UK (i.e. non-south East) Office-Based Jobs and Rental Values (%y/y) - - Office-based jobs, adv. quarter (LHS) Office rental values (RHS) - 997 999 7 9 - - - - Rest of South East 9% of office stock by value Rental value growth...... End yr equiv. yield, %.7 7. 7. 7. 7. 7. Capital value growth.9..9... Income return.9 7..... Total return....7 9..7 Rest of UK % of office stock by value Rental value growth -...... End yr equiv. yield, % 9...... Capital value growth -....9.. Income return 7. 7..9 7. 7. 7. Total return.7.. 9...7 : Contributions to All Office Capital Value Growth (%-Points) CE forecasts Impact of rental value growth Impact of yield movements - - : Nominal and Real Total Returns (%y/y).%.% Series Nominal Real CE forecasts - - - 7 - - Avg. Avg. 97-99- 7 7 9 - - Sources ONS, IPD, Thomson Datastream The UK Commercial Property Analyst Q

Retail Occupier Market The rental floor has arrived, but the upturn will be slow Our hunch three months ago that retail rental values had found a floor has been proved correct, with the IPD all-retail average edging up by.% in the second quarter. However, upward momentum has not accumulated as quickly as we had anticipated and we have made small downward revisions to our forecasts. We now expect all-retail rents to rise by about % this year and by % next, down from the.% and % previously estimated. To be fair, near-term demand indicators for retail space are encouraging. The RICS survey s occupier demand balance dipped in the second quarter, but it is still higher than at any time from 999 to. (See Chart.) Consistent with that, surveyors are also optimistic about the prospects for retail rental values themselves and, on past form, this suggests that rents could be rising at an annual rate of % by the end of. (See Chart.) Similarly, the growth in retail sales volumes already seen suggests that real retail rents might, at worst, be flat over the next months. (See Chart.) That would imply nominal rental growth of perhaps %. In addition, although an increase in new retail property construction over the long run can only weigh on rental values, we would treat the recent improvement in the shopping centre development pipeline, as shown in Chart, as a positive sign for the short term. After all, it signals that developers are confident that occupier demand will be strong enough to absorb more property. Finally, the fact that real average earnings are poised to increase steadily over the next year bodes well for consumer spending, retail occupier demand and rents. (See Chart.) However, although the demand for retail property looks set to expand over the next few years, there is still a vacancy rate problem among the existing stock of property now. (See Chart.) Accordingly, the extra demand will first have to soak up some of this existing availability before retail rental values can start to rise more markedly. Indeed, while consumer spending should rise consistently by between.% and % over -, the past relationship suggests that this will only be enough for real retail rents to hold broadly steady. (See Chart 7.) In other words, nominal rents will probably only grow at about the rate of inflation for the next year or two, i.e. no more than %. The bottom line is that the retail sector is poised for a rental recovery, but the improvement will be comparatively sluggish. The fact that retail yields continue to rise relative to the office and industrial sectors, as shown in Chart, suggests that commercial property investors share our concerns about the medium-term prospects for retail rents. The UK Commercial Property Analyst Q

Retail Occupier Market Charts - - - - : Net % Balance of RICS Surveyors Reporting a Rise in Various Retail Indicators Demand Rent expectations - 999 7 9 - - - - - - - - - - - -7 - -9 - : Surveyors Expectations and Retail Rental Values Rental expectations, adv. 9 mths, % balance (LHS) Retail rents, %y/y (RHS) 9 99 7 9 - - - - - : Retail Sales and Real Retail Rental Values (%y/y) : Space Under Construction (Square Feet, Millions) Retail sales volumes, adv. m (LHS) Real retail rents (RHS) Shopping centres Retail warehouses - - - - - 9 9 9 9 9-9 9 9 97 99 7 9 : Average Earnings and Inflation : Retail Voids (% of Income) 7 - - Average earnings (incl. bonuses, m. av of % y/y) CPI Inflation (%) Forecasts - - 7 9 7 7 - - 9 7 Average 9 97 99 7 9 9 7 7: Consumer Spending and Real Retail Rents : Ratio of Retail to Office/Industrial Initial Yields 9 7 - - - - Real consumer spending (%y/y, LHS) Real retail rents (%y/y, RHS) Forecasts 9 9 9 9 9 9 - - -9 - -.....9.9...7.7.... 7 9 9 9 9 97 99 7 9 Sources IPD, RICS, Thomson Datastream, CBRE The UK Commercial Property Analyst Q

Retail Occupier Market (Continued) Outlook for retail warehouse rents less positive than before The (modest) downgrades to our - forecasts for all-retail rents reflect downward revisions to each of the three main sub-sectors. However, retail warehouses are affected more than shopping centres and standard shops. Admittedly, we expect housing market activity to strengthen over the second half as the temporary disruption to mortgage lending from the introduction of the MMR rules dissipates. Typically, a busier housing market is good for retail warehouse tenants as households splash out on big-ticket items such as new furniture. But even without such an improvement in the housing market, the activity already seen suggests that there is upside potential for retail warehouse rental values over the next six to nine months. (See Chart 9.) In addition, there are no signs that the Government is about to relax the town centre first bias of planning policy, which has restrained new retail warehouse supply and supported rents. However, as we noted in a recent Update ( Retail warehouse rents are poised to recover, but slowly, th July, available to clients on our website), effective retail warehouse rents seem to have been undermined over the past few years by a rise in leasing incentives such as rent-free periods. Accordingly, it is conceivable that a stronger retail warehouse occupier market will now benefit effective rents first, with the improvement taking longer to show up in headline rental values. At least the prospects for consumer spending on household goods are positive. (See Chart.) But the outlook for spending on clothing, for example, is less encouraging, and that points to caution about the prospects for shopping centre rental values. Small/old, intown shopping centres are particularly vulnerable to rental value underperformance. The picture for standard shops is also mixed. Prime Central London space, for example, should continue to see strong rental gains as buoyant occupier demand comes up against tight supply. Elsewhere, however, although Chart shows that availability is declining around the regions, most indicators suggest that it is still high. And that will weigh on rental values for a while yet. Bringing this together, retail warehouse rents should start to rise over the coming quarters and our new forecast is for gains of % in as a whole and % in. Driven by Central London, standard shops on average should perform better than that, with rental growth of.% this year and.% in. We still anticipate underperformance by shopping centres. (See Chart.) Overall, all-retail total returns should be about % this year and % in. (See Chart.) Yields may face modest upward pressure from - onwards, but a slow and steady rental value upturn should prevent any meaningful falls in capital values. The UK Commercial Property Analyst Q

Retail Occupier Market Charts (continued) 9: Housing Market Activity and Retail Warehouse Rental Values : Value of Consumer Spending (%y/y) Transactions are advanced nine months HMRC property transactions, s (LHS) Retail warehouse rental values, %y/y (RHS) 9 9 9 9 9 - - - Total retail sales Clothing Household goods CE Forecasts Avg. - : Net % Balance of RICS Surveyors Reporting a Rise in Retail Availability Table : CE Retail Sector Forecasts (%y/y, Year-End) - - London South Midlands/Wales North - - All retail f f f 7f f Rental value growth -...... End yr equiv. yield %..9.9... Capital value growth....7.. Income return.9.9.... Total return.. 7.7 7. 7. 7. - 7 9 - - - - - - : Rental Growth (%y/y) Retail warehouses Shopping centres Standard shops Forecasts - 7 9 - - - - - - - - Retail warehouses 9% of retail stock by value Rental value growth -...... End yr equiv. yield %..9.9.9.. Capital value growth..7.... Income return...... Total return 7. 7. 7.7 7. 7. 7. Shopping centres % of retail stock by value Rental value growth -...... End yr equiv. yield % 7....9.9 7. Capital value growth...... Income return.9..... Total return.7.9 7. 7. 7.7 7.7 : Real and Nominal Retail Property Total Returns (%y/y) - - - - - - 97-7 99-7 Series Nominal Real CE forecasts 9 - - - - - - - Standard shops 9% of retail stock by value Rental value growth -...... End yr equiv. yield %....7.7. Capital value growth.7..... Income return..7.... Total return 9..9 7.9 7... Sources IPD, HMRC, RICS, Thomson Datastream 7 The UK Commercial Property Analyst Q

Industrial Occupier Market The rental outlook is as bright as ever The industrial occupier market recovery has continued recently with no end in sight. Our unchanged forecast is that all-industrial rental values will increase by % or more this year and by about.% in. For a start, demand indicators are positive. Most agency reports suggest that industrial take-up has been healthy in the first six months of, especially for big-box distribution and logistics properties. Meanwhile, the latest RICS data show that the recovery in industrial occupier demand is broad-based across the regions. (See Chart.) Clearly, this bodes well for rental values. Indeed, the RICS data relating to surveyors own expectations point to clear scope for industrial rental value growth to accelerate further. (See Chart.) Admittedly, it may be too early yet to be looking for a strong recovery in real industrial rental values. After all, although it is on a downward trend, availability of existing stock has not yet fallen to a level that historically has been consistent with sustained real rental growth. (See Chart.) Even so, with GDP set to increase by % or more this year and by the same amount again in both and, occupier demand for industrial property looks strong enough to drive some growth in real rental values. (See Chart.) workforce jobs across the economy as a whole point to a further near-term rise in the pace of rental growth in this segment. (See Chart.) Certainly, there is no sign that retailers are about to scale back their demand for additional distribution space. Within the broader picture for all-industrial rental values, we expect the South East to outperform the Rest of the UK for the next few years. Our forecast is that South East industrial rents will grow by at least.% this year and by closer to % in. The figures for the Rest of the UK are.% and % respectively. Overall, the positive outlook for rental values, combined with scope for yields to fall further, suggests that all-industrial capital values are on track to rise by % or so this year. Yields may fall further in, helping extra gains in rental values to boost capital values by perhaps.%. Accordingly, industrial total returns look set to be about % this year and could well be in double digits again in. (See Chart.) Admittedly, as with the other sectors, yields will face modest upward pressure from onwards (perhaps even ) in response to higher interest rates. That will dampen returns. But with the rental outlook positive, capital values should continue to rise slowly but steadily from - to. In other words, this upswing is unlikely to give way to a downturn for the foreseeable future. More specifically, distribution warehouse rental value growth has moved back into positive territory and the recent strong gains in The UK Commercial Property Analyst Q