Charting the road ahead

Answer

The UK real estate market is moving into the new year with cautious optimism. At its heart, real estate has often found itself in something of a double bind. The places in which we live, work and play are literally formed in concrete, but they remain ever at the forefront of sweeping social and political demands. In this context, 2025 is uniquely poised to deliver fundamental change. The impact of technology, the overhaul of asset classes, and the promises of a new Labour government suggest this will be a year of radical upheaval to commercial and residential real estate. The journey promises to be long and winding but also, for students in the area, very exciting.

Where we are

In 2024, the UK economy performed better than anticipated. The early general election provided some stability, inflation steadied and by August the Bank of England was beginning to lower interest rates. This positive trend is expected to continue into 2025, aided by further rate cuts. The 2024 autumn budget brought several changes that could challenge some businesses; however, there was also some big boosts for the real estate sector.

The government's investment strategy focuses on growth sectors (including life sciences) and infrastructure enhancements are being promoted. After a tough few years, there were signs of recovery in the commercial real estate sector, with property values beginning to rise and investment encouraged by those lower interest rates. The housing market was given ambitious new building targets and the potential to unlock green belt land for development with a new 'grey belt' classification (being the low-quality land, car parks and wastelands on the outskirts of towns). Planning reform has a considerable way to go before it results in a substantial increase in housing delivery but, again, there are potentially green shoots here to increase supply.

Where we're going

Against the political backdrop, the two overarching themes for the real estate will be sustainability and technology. As national net-zero legislative targets draw closer, decarbonisation ambition will be buoyed by a wave of sustainability-focused policies and legislation expected in 2025, particularly regarding minimum energy efficiency standards and energy performance certificate regulations. Green buildings will continue to attract a premium in capital or rental values, but investors could well be tempted by the stranded or older/lower-quality assets that present retrofitting opportunities to meet upgraded industry and environmental standards. In the meantime, the burgeoning use of AI generally is expected to enhance efficiency and streamline management in the market, as well as revolutionise the industry of data centre development.

Sector opportunities

Certain sub-sectors present interesting opportunities for investors.

Offices

The explosion of hybrid working has been challenging for this sector, but prime office space remains limited throughout the UK and capital expenditure is required to enhance the quality and energy efficiency of older buildings.

Living

A persistent imbalance between demand and supply continues to fuel strong rental growth in the private rented sector. High financing and construction costs will keep supply constrained but planning reform could alleviate supply in the medium term and open up additional investment opportunities.

Purpose-built student accommodation is projected to remain in demand throughout 2025 as the population of 18-year-olds is expected to rise until 2030 and Labour has long supported international students. However, supply is expected to fall short of demand, leading to a nationwide shortfall of 620,000 beds in 2025.

Retail

Increasing consumer demand will generate gains for this sector, despite the complications in generating digital sales. Retailers could implement in-store return fees for online purchases, but the convenience and free parking of retail park locations is perennially popular for click-and-collect services.

Logistics, industrial and data centres

Following a peak during the covid-19 pandemic, logistics investment has fallen steadily and has now stabilised. With a stable economic backdrop, occupier activity in 2025 is expected to remain constant.

Data centres are an exciting emerging asset class, with demand growing exponentially, accelerated by the expansion of AI. London currently represents 80% of the country's data centre market and its supply is expected to grow by 17% in 2025. However, space constraints and limited power availability could temper growth compared with European counterparts.

Hotels

The hotel sector has faced substantial challenges. Rising inflationary costs, especially in utilities, food and beverage, and payroll, have applied operational cost pressures for the past three years. However, with inflation beginning to stabilise, hotel revenues are also expected to increase as tourism numbers surpass pre-covid levels, particularly in London. These factors will likely lead to an uptick in investment activity.

Operational real estate

The ‘shift to value’ in operational real estate finds investors purchasing operating platforms alongside the property itself, for example in the senior living and self-storage sectors. High borrowing costs will likely prompt investments here to be structured through joint venture vehicles, enabling investors to leverage their impact by sharing costs and risks.

Life sciences

Demand for lab and office spaces will likely rise in 2025 as venture capital funding increases alongside government funding commitments. Increased biotechnology patent innovation, strong pharma sales and AI continue to feed investor appetite. The ‘golden triangle’ of London, Cambridge and Oxford continues to stand out from a science and real estate perspective, with a strong pipeline of space being delivered to the market in 2025.

Conclusion

After a period of political and financial uncertainty, 2025 promises a dynamic year ahead. There’ll undoubtedly be hurdles but the stabilisation of inflation and the reduction in interest rates will serve as the foundation for renewed investor confidence. For those investors and stakeholders willing to navigate the road, the destination at the end of the road looks promising.

Tom Cripwell is a trainee in the corporate real estate and private capital team at Taylor Wessing.