Savills has upgraded its prime rental forecasts and now expects average rental values in prime London to rise by a total of 12% in 2022, and by 18.3% over the five years to the end of 2026 – revised from 13.7% as forecast in November 2021.

“Prime rental values in London have been steadily recovering from Covid-19 related falls since the beginning of the year. In the three months to June, rental values increased by a further 3.3%, bringing annual growth to 13.5% – the highest annual increase recorded in over 20 years –  which has more than compensated for the losses seen during the pandemic,” said Jessica Tomlinson, research analyst at Savills.

“The ongoing acute lack of stock, continued strong demand from tenants in response to the capital bouncing back to life, and employees returning to offices, means that we can expect pressure on prime rents across both London and the commuter belt, at least in the short term,” she added.

In June, stock levels in London remained 35% below June 2019 and 44% lower in the commuter belt. By comparison, new applicants registering in London are up 71% on June 2019 levels and are 45% higher in the commuter belt. As such, Savills expects continued rental growth over the third quarter of this year, driven by the significant imbalance between supply and demand.

Although rents continue to increase across the commuter belt, growth has begun to level out, following two years of rapid growth – with values 15.0% higher than March 2020. Savills expects prime rental growth in the prime commuter belt to increase at a slightly slower rate – 7.0% over 2022, and by a total 11.9% over the five years to 2026.

Table 1: Prime rental value forecast (2022 – 2026)

Source: Savills Research
N.B. These forecasts apply to average prime rents in the second hand market. New build rental values may not move at the same rate.

However, the cost of living and inflationary pressure is expected to slow the market down over the final quarter of 2022 and into 2023.

“A second energy price cap rise in October 2022 will likely put more pressure on tenants’ spending power. Although the prime markets may be more insulated against some of these pressures than the market as a whole, we do anticipate a significant slowdown in the rate of rental growth from the end of 2022 onwards,” continued Savills’ Tomlinson.

As a result, Savills anticipates rental growth to slow slightly over the second half of the year, and to slow significantly to 1.0% across both London and the commuter belt in 2023.

In addition, the significant levels of rental increases since the pandemic do limit the capacity for future growth over 2023 and beyond. This follows a similar trend to how the prime rental markets performed after the global financial crisis, where the rate of growth slowed in the years following an initial bounce back.

Over the medium term, as inflationary pressures begin to normalise, Savills expects to see a return to more historic levels of rental growth.

Tomlinson added: “Stronger wage growth may allow for additional rental growth as some of the spending power of tenants returns. Additionally, regulatory changes may result in some private landlords existing the market, limiting stock levels in some areas, and pushing up rental values.

“But over the longer term, the capacity for further sustained rental growth will be limited given the rate of increases recorded over 2022 and, indeed, since the pandemic.”