However, the current global economic environment – characterized by inflation, higher interest rates and banking sector instability – complicates this approach. Here’s why applying US analyzes to Europe could be misleading:
- Europe has seen a rapid revaluation of capital values, while North American values have not yet adjusted significantly, despite weaker fundamentals.
- Europe has historically low vacancy rates, while U.S. rates average about 2.6 times higher.
- Net absorption of office space in Europe has been positive for the past seven quarters, while the US has seen negative absorption since the start of the pandemic.
- Standard lease incentives in Europe average 10.3%, significantly lower than in the United States, where incentives can reach 30% of the lease value, impacting net operating revenues.
- Europe is leading the way in hot desking and efficient use of space, having adopted these practices before the pandemic, resulting in more efficient office use.
Reformulated values and market reactions
North American values do not yet reflect fundamentals
European property values have quickly adapted to new economic conditions. Raters increased prime yields and discount rates to reflect interest rate increases, leading to a rapid recovery in prices. While deals remain modest, transactions are occurring close to book values, suggesting confidence in current valuations and improving market transparency.
In contrast, North American property values have been slower to adjust. For example, in the 12 months to March, North American property values fell 2.4%, compared to a 13% decline in continental Europe and a 22% decline in the United Kingdom. Although the value of US offices fell by 14.1%, this is less than the 16.5% decline seen in European offices. This slower adjustment in North America may suggest some resilience, but the data does not fully support this view.
Investor sentiment and office investment
Office investment is at a lower level in the US than in Europe. Traditionally, office investment represents approximately 50% of commercial real estate activity in the United States, but this percentage fell to 20% in the first quarter of 2023. In contrast, Europe and Asia have maintained relatively stable office investment shares despite the general decline. This disparity reflects weaker investor sentiment in the United States and skepticism about current valuations.
Rental fundamentals and growth
Vacancy rates
Europe has the lowest office vacancy rate among major global regions at 7.6%, supporting potential rental growth. By comparison, major U.S. markets like New York and San Francisco have seen significant increases in vacancy rates since the pandemic, with San Francisco’s rate rising from 3% to over 30%. This raises concerns about the obsolescence of many office properties in the United States, particularly skyscrapers which are more difficult to repurpose than shorter European buildings.
Rental values
Despite the challenges, prime rentals in Europe, especially for sustainable and amenity-rich spaces, continue to show positive growth. JLL forecasts average annual growth in primary office rents in Western Europe of 2.2% over the next five years. In contrast, US prime office markets are forecast to post modest growth of 1.9% through 2027, with traditional forecasting models struggling to account for structural changes in office use.
Net absorption
Net absorption of office space in Europe remains positive, with leasing activity outpacing new supply and space returning to the market. The United States, however, is experiencing declining occupant demand and increasing development, resulting in negative net absorption.
Rental incentives
In Europe, average rental incentives are 10.3% of rental value, up from 7% in 2019, with some cities such as Paris La Défense recording higher levels. In the United States, incentives are significantly higher, reaching up to 30% in cities like Chicago. This disparity highlights stronger bargaining power of occupiers in the United States and suggests that European markets are better positioned to increase net operating incomes despite rising financing costs.
Flexible working and office use
European offices have long adopted hotdesking, resulting in a more efficient use of space than in the United States, where fixed desks are more common. European offices are better utilized post-pandemic, with significantly higher occupancy rates than in the US. JLL data shows that office occupancy in the United States ranges from 40 to 60 percent, compared to 70 to 90 percent in Europe. This efficiency, combined with a faster return to office work in Europe, positions European markets favorably in managing long-term demand for office space.
A living example of profitable investment in European real estate
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Summary and perspectives
The US and European real estate markets differ significantly, with Europe’s substantial pricing revision, low vacancy rates, positive net absorption and efficient office utilization suggesting a stronger position than the US . While Europe faces its own challenges, including potential further value corrections, its current fundamentals indicate that it could outperform the US market in the medium term. North American real estate, burdened by financial instability, oversupply and high valuations, faces a more challenging outlook.
Understanding these subtle differences is critical for investors and stakeholders as they navigate the evolving global real estate landscape.