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LONDON-RICS is predicting that returns in the commercial property sector will slow sharply next year following a “bumper” 2005. The institution’s latest forecast estimates total returns will slow to 13.4% this year and 6.6% in 2006 despite steady demand for commercial property because of what it describes as “a turning point” in interest rate levels.

Capital values, which have been the main driver of returns over previous years, will be the main casualty, with an increase of only 0.4% predicted for 2006, compared to 6.5% this year and 11.4% in 2005. As a result, yields will “bottom out and edge higher,” according to RICS.

Rising rents in specific markets will provide some level of counterbalance, however, with a steady increase of 1.6%, marginally lower than this year and last. But the slowdown in domestic consumer spending as a result of interest rate rises and a weak housing market is “a threat to rental growth in the industrial and retail sectors,” RICS reports.

This could be exacerbated by any tax rises during the new parliamentary term and any continuing weakness in industrial production. Total returns in industrial and retail will fall to 7.7% and 5.7% in 2006, from 14.5% for both sectors this year. Nevertheless, RICS predicts sluggish growth rather than a recession in the UK, with GDP growth at 2.5% for both this year and next.

A robust world economy, on the other hand, as a result of oil prices receding from current highs, will result in corporate confidence and the real prospect of rental growth in the office sector, particularly in London. Rents will rise by 1.9% in 2006, compared to 1.5% this year, although returns will drop to 6.1% from 11.2% as a result of weakening capital values, RICS adds.

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