Since the beginning of the second half of 2024, we sense a shift in the mood and investor confidence. We’ve come a long way, from interest rates peaking in 2023, and recently the first set of cuts by various European Central Banks. This change heralds a new era of cautious optimism as the markets adjust to the easing monetary policies. With inflation nearing target, there’s a palpable sense of relief that the tough measures taken by central banks have done their job. Looking ahead, now the interest rate storm has passed, we should turn our focus back to real estate fundamentals.

Predicting future interest rates, and ultimately property yields is difficult, especially given the wide range of factors influencing interest rates – and the elusive “neutral rate”. Conversely, rent growth is a relatively easier component to forecast occupier demand, vacancy rates and expected new supply, as well as other structural and economic factors. Often the vacancy rate – and the change in vacancy – is the biggest driver of near-term rent growth. Barriers to future supply, development margins and the impact of regulations on future supply are a good gauge of medium-to-long-term rent growth. To identify markets with strong rent growth, we have developed a framework to assess the supply outlook.

1.1 Vacancy vs. Supply Outlook 

Analysis to identify the most supply-constrained European markets.

The current vacancy rate is a pivotal initial starting point for expected rent growth. The vacancy rate reflects the immediate availability of space but also influences future development decisions. Data on vacancy rates are generally widely available, and therefore immediate-term market rent growth is typically priced into property yields. Next, the expected change in these vacancy rates is a critical indicator of market trends, signalling near-term shifts in supply and demand dynamics. We estimate the change in vacancy rates based on the current supply pipeline and expected net absorption.

Growth in construction costs, estimated exit capital values and ultimately development margins impact the medium-term supply outlook. Low development margins can significantly limit future supply, as developers may be hesitant to embark on new projects if the expected return does not justify the investment, leading to a slowdown in construction activity.

Lastly, barriers to supply and regulation are poised to have a profound impact on the long-term supply outlook. Geographic constraints – such as limited available land – and legislative barriers like zoning restrictions substantially hinder the supply of new developments. New regulations, including sustainability-related factors, while important may also result in tighter supply if they increase costs or extend development timelines.