London Market: After a grim 2003 for the London office rental market, 2004 will not be much better, writes Juliana Ratner

Both City and West End landlords had a lousy 2003 with rents falling 15 per cent and 19 per cent respectively. While there is some evidence that the bottom may be near, the good news is some way off.

London's property industry is counting on financial services firms hiring again after three years of job cuts, hoping this will drag the office rental market out of one of the worst slumps in a decade.

The only problem is that the City is not hiring. Goldman Sachs is increasing its new graduate class by 25 per cent but the numbers are too small to require new space and most other companies are leaving staff levels unchanged.

Many tenants have excess space remaining after staff redundancies, which they will use up before looking for new offices. Most are not expected to begin adding space until the end of this year at the earliest.

Martin Wallace, head of Jones Lang LaSalle's City agency, says banks' excess space will last them through this year and possibly next year as well. There is some evidence, however, that potential tenants are starting to think about future space requirements.

"I would describe 2003 as the year of no decisions," says Mr Wallace. Only 3.25m sq ft (301,935 sq m) was taken up in the City, slightly more than 2002's depressed level.

Even if potential tenants are beginning to look, they are unlikely to boost the City rental market until 2006, says Robert Heskett, head of London portfolio management at Land Securities.

At the end of last year Land Securities completed a new building at 30 Gresham Street with about 36,511 sq m (393,000 sq ft), which remains vacant.

The high vacancy rate is keeping rents down and some landlords, desperate to fill space, are offering juicy incentives, such as two-and-a-half years rent-free.

After last year's precipitous fall in City rents, Jones Lang expects them to fall again this year but to stabilise in 2005.

The West End office market is not quite as bad as the City. Because of its diverse tenant base, the West End tends to pick up before the City and office rents there appear to be near the bottom.

Rents for prime buildings fell 19 per cent last year, with the top rental at £55 per sq ft by the end of the year, but vacancy rates stabilised in the fourth quarter.

Rents, however, are expected to remain low for a number of months before rising again.

Industries that make up the tenant base in the West End, such as professional services and advertising, are improving faster than the City's core tenancy of financial services, though there is some disagreement about when rents will rise.

Toby Courtauld, chief executive of Great Portland Estates, says West End rents will not rise until the end of 2005.

He does not expect the current increase in inquiries to translate into rental increases right away because there is still too much supply. However, Julian Stocks, a director at Jones Lang, believes growth could come this year.

The last time that the market reached this level, in the recession of the early 1990s, rents remained depressed for four years before picking up but Mr Stocks says he expects a faster turnaround this time because there is limited development in the West End.

The existing supply that needs to be taken up includes a new development on Park Lane, which remains empty, and a 6,968 sq m (75,000 sq ft) development by Helical Bar and Morley Fund Management at 40 Berkeley Square. Blackstone Group, the private equity firm, has pre-let 1,858 sq m (20,000 sq ft) in the building.

Michael Slade, managing director of Helical Bar, says they are not planning to market the remaining space until April, when the market may have improved.

Mr Slade, known as an astute predictor of market trends, says Helical Bar is beginning to look for development sites. Yet he has no plans to start building until this summer as he does not expect any great demand for a new development until the end of 2005 or early 2006.

He has good reason to wait. About 223,896 sq m (2.41m sq ft) of space was taken up in the West End last year, the second-worst on record after the previous year, according to Jones Lang.

Despite the bleak outlook, people in the property industry remain optimistic. Even Mr Slade, who is one of the more pessimistic among his sanguine colleagues, says the market will not - and cannot - get any worse. But he is hard-pressed to see how it will improve, adding that one sure thing is that "it will take some time".

Financial Times Service