London skyscrapers used to be targets for trophy-hunting state-owned investors, but buyers dried up as the risks associated with Brexit and the potential impact on the UK’s financial sector deterred investment.

The City of London Corporation’s approval of a 38-story development at 2 Finsbury Avenue, planned by Singaporean sovereign wealth fund GIC and British Land, suggests state owned investor (SOI) interest in the London real estate market could be reviving with greater certainty over UK-EU relations and the prospect of a post-pandemic recovery.

The project at the former site of UBS’s London offices will provide about 83,000 square meters of new workspace in London’s main financial district, despite plans by banks to down-size their office space amid economic contraction and increased home working.

London has lured around US$60 billion of SOI real estate investment since 2010. Until recently, the British capital offered opportunities to capture high, stable yields, particularly for Middle Eastern funds. However, the brakes were applied when the British public voted to leave the EU in June 2016.

Global SWF research demonstrates the slump in SOI investment in UK real estate, which is dominated by London property. In 2017, the year after the referendum, interest almost dried up, with investment dipping well below US$1 billion amid a slump in interest in office property. In that year, the UK represented little over 1% of total SOI investment in real estate, down from 10% in 2016 and a peak of 34% in 2013. At the same time, SOIs virtually vanished from the London office market after the referendum.

Brexit exacerbated overall trends in real estate in developed markets, where real estate investment growth has been curtailed amid falling rental income, deteriorating occupancy rates and declining property yields. Additionally, slackening Chinese investment has knocked confidence asset value growth. Chinese investors were big buyers of trophy assets in previous years, helping to shore up asset values. The Chinese government tightened capital controls on foreign property purchases in 2017, leading to a slump in outflows and anxiety over how the retreat of Chinese investors will affect real estate prices.

A series of tax changes introduced from 2014 and promises of more taxes for overseas buyers helped end a period of breakneck growth. These changes included an end to tax relief for foreign buyers and changes to stamp duty with higher taxes on second homes. The government’s aim was to reduce the tax burden for London residents by increasing it for wealthy buyers and stopping excessive foreign direct investment into London property. However, the changes have hammered the entire property market.

The bold bet by GIC and British Land on recovery rests on an assumed tighter market in coming years and London’s post-Brexit reinvention. However, the trophy assets that were in vogue in the pre-Brexit real estate surge will not necessarily be the prime target. Multi-use developments and commercial real estate, which have attracted the big Canadian public pension funds, are likely to represent the best bet for asset value growth.

GIC's project comes in the context of forecast GBP46 billion (US$65 billion) of international investment in London's property market in 2021, according to estate agent Knight Frank's research. The slew of capital is led by China, which is set to represent over a quarter of real estate acquisitions at GBP12.6 billion (US$17.8 billion), followed by Singaporean investment at GBP5 billion (US$7 billion).

Even if state investors return in earnest to the London office market, the days of big ticket assets dominating SOI interest are long over as the trend is towards diversification into logistics property and emerging markets.

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