Commercial Property Prediction for Metropolitan Sydney 2024
15 January 2024 | 5 min read
As we commence the new year, many of us will gaze into our crystal balls and seek to predict what may lie ahead for 2024. Here is my go at predicting some of the themes facing the smaller end/ strata commercial markets, especially as they might apply to the Sydney metropolitan markets.
1. Leveling of interest rates with hopes of a reduction by end of 2024
Debt funded investors, especially those that bought properties when interest rates were low, will be hoping that the macro economic issues (largely, inflation) that have been driving interest rate increases will start to resolve themselves. This category of property owner will try and hang in there with the hope that a stabilization and/ or reduction in interest rates comes through and the value of their investments will bounce back.
I expect that the cost of finance will remain relatively high compared to rental returns and so we will not likely see a significant return of the debt financed investor purchaser to the market in 2024. There may be opportunities for the investor not relying on finance. I do not expect any significant yield compression (nor decompression) in 2024.
2. Movement in property rentals will depend on the nature of the property
My expectation is that office rents will remain relatively stagnant, retail will continue to be challenged and industrial will remain fairly strong. As tenant leases continue to expire (at the end of the typical three or five year fixed terms), tenants that agreed rents at the peak of the market (ie pre-COVID) will seek better deals.
Strata office investors may find themselves with longer vacancy periods and may need to meet the market in terms of rent, especially in markets where competition from institutional investors is strong. Flexible working arrangements will continue to impact the design, size and usage of office property.
Retail rents have traditionally been very high and given the well documented cost of living pressures, the impact on retailers, especially in discretionary spending, has been significant. Their ability to pay high rents has been diminished and so I expect landlords will need to be realistic with terms and pricing to attract and retain quality tenants.
Smaller industrial stock has been relatively constrained in recent years which has led to many tenants renewing leases of their existing premises and not moving and freeing up their own properties. In some pockets, there has been some industrial development (eg at Rouse Hill, in Sydney’s northwest) which has added to the supply pool. Not surprisingly, given the recent high building costs to construct such facilities, the rents sought are generally high and since there is not currently a significant oversupply of stock on the market, high prices are being achieved and I expect that will continue into 2024, unless there is a rush of development adding to the available stock.
3. Owner-occupiers will continue to be stronger buyers of commercial real estate
Given the pressure on net returns (ie higher costs of finance as well as outgoings), investor owners will continue to find an alternate home for their capital in the share and bond markets.
4. The power balance will swing back toward the tenant
Tenants will be more discerning in the properties they want and will seek more flexible terms. Given there is typically less competition for sites, the power balance between landlord and tenant will be more evenly balanced.
5. A great time to sell
Potential vendors of commercial properties considering a sale will consider 2024 an opportune time to sell given the strong increase in prices over recent years, and concern that recent (relative) weakness might signal a further deterioration. Given the uncertainties in the market and the natural concern that prices might retreat, I expect that the number of listings coming to the market for sale will increase and vendors will be more realistic with their expectations. I predict that there will be less buyers in the market and therefore robust negotiation of deals will be required to transact. In other words, properties will not just sell themselves.
6. Building costs remain high will challenge commercial development
A constant refrain of the last few years has been the high cost of building. Given supply chain issues, cost of finance and uncertain demand, I predict that developers will take a cautious approach to development and will require pre-sales and pre-leases before commencing work. Developers that locked in sales in previous years may find themselves in difficulty should the costs to deliver the property have increased too far beyond expectation. In recent times, we have observed a number of residential builders suffering as a result of rising costs, slim margins and lower sales prices. I predict that some commercial developers will withdraw developments from the market rather than take on too much risk in 2024, especially those that are office-focused. Industrial developments will be lower risk given stronger demand and the lower cost to build. Those developers that can manage their costs (eg with their own building teams and with little/no borrowings) should do well in 2024 as confidence returns to the market with a reasonable/manageable level of competition.