Fraser Watson (Savills): Lack of deals leaves us in limbo

Published: 31. 08. 2022

Did quoting 4% prime yields for Prague end after February 24? In view of all that’s changed, it seems unlikely we’ll see their like for a long time.
I think if you look at Churchill at the rumored 4.25%, the feeling was that if something like Florentinum or another top, core property was to trade, it would be more expensive than Churchill. The 4% was also justifiable earlier this year and over the preceding 18 – 24 months on the basis that all-in interest rates were some way below the 2 percent mark. Now debt costs have gone up by 200 basis points, which means that your all-in cost of debt now is about 3.5% – 4%. The interest rate swaps are coming off slightly, but they’re still very, very high compared to recent history — three to four times where they were in January. So, logically the push out on prime yield seems like it has to come, and we feel like it’s starting to happen. But nobody knows really where it’s going to settle because nothing has transacted yet to re-base the market. We’re in a kind of no-man’s land at the moment and the valuers haven’t yet got enough hard evidence to hang their hats on and formally amend opinions of value.

I think owners will still find it a little bit difficult to sell at discounted prices because there’s no justification on paper for doing so, albeit sentiment is clearly pointing in that direction. There haven’t been enough concluded transactions. What slows the speed at which prices come down is the lack of sellers and the small turnover of deals. If you look at other markets in Western Europe, the prices have already moved out quite substantially, in part because they’re doing higher transaction volumes there than we are here and the speed of churn is quicker.

So, it’s like the concept of innocent until proven guilty. You can’t say prices have fallen until they actually fall. Valuers have to make their judgements based upon evidence.
But also on market knowledge. In an environment where there’s no or little evidence, then there’s a hierarchy of comparable evidence. Market sentiment can also be evidence, which  can include economic factors like debt availability and cost, the number of active investors and what an investor is saying in terms of their own market views. So, we’re going to be putting 4.50% as our prime office yield, partly just on the basis that it is not credible to say that the market hasn’t changed over the course of the last 6 months. But it’s also not credible to say exactly what it is now! I think moving it out too far, too fast is not what the market needs either. There’s a fine line an agent must walk between keeping owners and potential clients happy and maintaining credibility in giving genuine advice.

Where does the war come in terms of the hierarchy of risks that you see?
There are so many moving parts at the moment, like inflation, supply chain bottlenecks, uncertainty around health situations, the oversupply of money in the market, rising interest rates. The war definitely has a place somewhere in the hierarchy of market risks, and as a region, CEE has felt the brunt of this more than other areas of Europe, and especially amongst the wider international (i.e. non European) investor audience. Other problems had already built up, though, including this decade-long zero interest rate and QE that’s been flooding the market with money and making a lot of people very wealthy in terms of asset value inflation. On a slight tangent, the historical interest rates provide a really interesting graph. If you look back to 1980, interest base rates were 16% in the UK, so 7% now in Czechia doesn’t look so bad in comparison. In a sense, we’re actually just moving out of a period of abnormality back to normality in which borrowing costs are 3-4% on commercial buildings and yields should show a couple of percentage point spread.

7% percent interest isn’t 16%, but it’s a lot higher than it was a year ago. Are Czech koruna deals drying up? Do you see signals of a slowdown because of financing costs?
If we’re talking about Czech koruna deals, then for sure, 100 percent accurate that CZK deals are drying up / slowing down. The playing field has fundamentally shifted. You can’t borrow for anything that would be considered sensible six months ago and it’s obviously having an impact on the amount of Czech currency deals that are happening. The general willingness from buyers to actually go into a Czech-denominated deal is much less than it was.


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