UK real estate market outlook Q1 2026
UK real estate looks set to deliver healthy returns in 2026. Read more to find out why.
Duration: 9 Mins
Date: Jan 26, 2026
Key Highlights
UK inflation rate and Bank of England policy rate forecasts
UK economic outlook
Activity
As expected, economic growth slowed in the second half of 2025. While we await official data for the fourth quarter, both September and October saw monthly contractions of 0.1%, while the third quarter, as a whole, expanded by just 0.1%. Budget uncertainty and cyber-attack-related disruption to manufacturing production weighed on activity in November. However, the latest Purchasing Managers’ Indices suggest a modest pick-up in activity since then. The market seemed to appreciate the increased fiscal headroom delivered by the Budget, and government bond yields have settled into a fairly tight range. Despite the Office for Budget Responsibility downgrading UK gross domestic product growth, higher inflation and wage forecasts mean the overall tax take at the end of the forecast horizon is smaller than expected.
Inflation
Inflation moderated towards the end of the year, falling to 3.2% in the 12 months to November. Perhaps more notable is the moderation in the more relevant drivers of household inflation expectations, namely food price growth, which fell to 4.2%. Policymakers are also taking note of measures in the Budget that should reduce short-term inflationary pressure. At the same time, the labour market deteriorated; employment figures fell for nine out of the past 11 months through to November. Private sector pay growth also moderated.
Policy
At their latest meeting in December, the Bank of England cut interest rates from 4% to 3.75% in a five-to-four vote. Despite moderating inflationary pressures, several policymakers are suggesting a pause in the formal easing cycle at 3.5%. We still believe the terminal rate remains closer to 3%, given the deteriorating labour market and falling inflationary pressure. But we concede that a pause over the first half of 2026 may be necessary to drive a more neutral tone.
UK economic outlook
UK real estate market overview
Real estate returned 7.7% over the 12 months to November [1] , representing a small decline over the second half of 2025. Despite this slowdown, the spread of returns across sectors remains similar, with income driving the bulk of returns. Retail and residential sectors are performing well at 9.4% and 9.2%, respectively. There is also increasing polarisation of returns in the industrial sector, with the South East lagging the rest of the UK as rental growth slows. Similarly, offices are polarised across London and the ‘big six’ cities, as occupiers prioritise location and quality.Annual capital value growth fell below 2% for the first time since January 2025, causing total returns to slow in recent months. Most notably, after several robust quarters of growth, the retail and residential sectors are softening. Offices remain the laggard at -1.4% over the three months to November. Despite monetary policy unwinding 150 basis points (bps) since its recent peak, significant yield compression is yet to feed through as investor uncertainty weighs on the market.
Mirroring 2024’s strong final quarter, direct investment activity picked up over the fourth quarter, with over £16 billion worth of transactions. This was 50% higher than the third quarter [2]. Annual investment volumes of £50 billion over 2025 compared favourably against recent years and the pre-pandemic average. Despite uncertainty over the Budget, investors remained committed to navigating a tighter investment market, engaging in joint ventures, and investing in portfolio and platform deals. Real Estate Investment Trusts (REITs) continued to sell throughout the year; cross-border capital remained active, with increasing activity from Canadian and Japanese capital.
UK real estate market trends
Offices
The outlook for offices continues to improve, particularly for those in accessible and amenity-rich locations. Central London offices that match this description are poised to capture the majority of demand over the next few years. Given this polarisation, lagging annual returns in the broader office market (3.1% to November) make sense, as they capture struggling secondary space with limited performance potential. It's from these assets that the bulk of capital declines are still feeding through; in the three months to November, the office sector saw a -1.4% change in capital values, compared with 0.1% for All Property.
Following years of strong prime rental growth, one of the key themes in today’s market is balancing affordability with occupiers’ expectations of quality space to attract and retain talent. In the West End, for instance, prime rents have increased nearly 9% per annum over the last four years to stand at £170 per square foot (sq ft) [3]. While not as steep, the City has seen a similar trajectory in prime rents. Rental growth will have to moderate at some point, but low prime vacancy rates and strained development economics are supportive. While submarket bifurcation is evident, proximity to public transport and amenities remains paramount for both occupiers and investors.
After a slower reaction to the polarised occupational landscape, the ‘big-six’ office markets are now more closely resembling the trends seen in central London. In 2025, annual take-up climbed to its highest point since 2019, reaching 4.6 million sq ft. The highest-quality space is seeing the tightest vacancy rate (3.6% for grade A against 8% overall). Meanwhile, speculative development is becoming increasingly scarce, with fewer than 600,000 sq ft currently under construction across all six markets [3].Although still running at around half pre-pandemic volumes, central London investment activity has been steadily increasing and now stands just shy of its highest rolling four-quarter total in three years at £6.4 billion. While cross-border capital has been more active, including from Japanese investors, institutional and private capital has stepped up to account for 43% of activity over 2025. There were 21 transactions over £100 million in 2025, up from 12 the prior year. The average transaction size in central London is steadily increasing as confidence grows, highlighted by the £340 million transaction for Can of Ham that exchanged in the third quarter.
Industrial and logistics
The industrial sector performed well over much of 2025, returning 8.9% over the 12 months to November. While we still have conviction in the sector, headline performance hides a growing divergence between London and the rest of the UK. The capital’s industrial market is taking a breath, as vacancy rates and rental growth underperform the UK average.Net absorption in London fell by 730,000 sq ft over the 12 months to November. This continues a trend of occupier retrenchment, as firms vacate costly space for cheaper alternatives. With the increase in sublease availability, landlords have found it more difficult to raise rents. This trend is especially pronounced in certain East London submarkets, whereas strategically positioned areas like Heathrow have shown greater resilience. While greater caution is needed, there are some bright spots. For instance, well-connected multi-let estates are seeing strong demand and rental growth, particularly for smaller units [4].
Nationwide, the picture is more positive. But occupier consolidation and new completions are expected to push vacancy rates higher in the short-to-medium term. The vacancy rate is currently 5.7%. That said, construction starts have slowed, and large logistics units in prime locations remain in short supply. Demand softened in the second half of 2025 due to tariffs and economic uncertainty globally. However, a brighter economic outlook and renewed activity in the defence sector are likely to strengthen confidence in the sector. Rental growth is also expected to remain stronger in the regions. Affordability ceilings aren’t as relevant here, particularly for strategically located submarkets.
The investment market has been driven by portfolio and platform deals, as landlords continue to search for scale. Notable transactions include Blackstone’s takeover of Warehouse REIT and its 9% equity-for-assets deal with Tritax Big Box REIT.
Retail
The retail sector continues to show strength, providing a 9.4% return in the 12 months to November. Shopping centres and retail warehouses led at 12.5% and 9.1%, respectively. Shopping centres are seeing income returns of 10%, but it’s important to note that secondary assets with non-dominant catchments will suffer from high rates of expenditure and vacancy. Retail warehousing, though, should benefit from a lack of new construction, with good-quality units seeing strong occupational demand.Consumer conditions remained mixed in the fourth quarter. On the one hand, inflationary pressures eased from their peaks and monetary policy relaxed. On the other hand, credit card borrowing had its fastest annual rise in nearly two years (up 12% to November) and the household savings ratio declined from previous quarters. This suggests a more challenging economic environment. The labour market is also clearly cooling. Payrolls contracted by 171,000 over the past 12 months to November, dragged down by the wholesale and retail sector, while median wage growth slowed to 2.7% [5] . This suggests cost-conscious consumers are still choosing to exercise caution.
Although cooling slightly from 2024, annual retail investment volumes were a healthy £8.2 billion to the end of December. Activity was spread across the market. Cross-border and private capital were active in central London’s super-prime high-street shops, REITs were particularly acquisitive of shopping centres and retail parks, and there was healthy institutional demand for long-income supermarkets.
Living
Alongside industrial and retail, the residential sector performed well over the 12 months to November, returning 9.2%. While the living sector has structural support, there are segments of the market that are cooling. Private rents in London, for example, were just 2.8%, down from 11.5% one year prior. Rental growth is stronger in the regions, but there are signs of slowing as affordability tempers the rate of change.Renters faced a challenging environment in 2025. The Renters Reform Bill will likely affect rental availability as more landlords exit and as macroeconomic uncertainty amplifies affordability pressures. The Royal Institution of Chartered Surveyors’ latest market survey across the UK indicates monthly tenant demand fell to its weakest reading since April 2020. New landlord instructions were also at their lowest level over this period.
The build-to-rent (BTR) segment is struggling with building regulations and a slow planning process, despite Labour’s intentions to tackle housing supply. Given the intense delays, it’s clear from the falling number of units under construction that BTR completions will decline over the next few years, regardless of any planning efficiencies. This should provide support for rents, although moderating wage growth and affordability concerns should ground these increases.
Purpose-built student accommodation (PBSA) struggled more as the year unfolded. Fundamentals for the sector are shifting; occupancy is losing momentum, ending the 2025-26 letting cycle down 4.8% year-on-year at 86.8% [6]. Studios are most affected, particularly those of poorer quality, while evidence suggests clusters are being affected by domestic students seeking value-for-money [7]. Rental growth is clearly slowing as operators attempt to maintain occupancy levels. CBRE’s latest PBSA index shows capital value declines of 2% in the year to September 2025.
Outlook for risk and performance
The Budget delivered various tax increases to a sanguine market reaction, which meant that the market ended 2025 with a sense of stability. Investment volumes took a pause in the direct run-up to the Budget, but ended the year in their stride. This suggests a rosier start to 2026 as investors gain clarity. Compared with this time last year, medium- to long-dated UK government bond yield curves have settled between 20-50bps lower. At the same time, inflation is moderating in line with expectations, productivity forecasts are light but positive, and we expect further interest rate cuts. All of this supports real estate performance, but with sector-specific risks.UK real estate looks set to deliver healthy returns in 2026, although affordability challenges will persist in certain subsectors and submarkets. Changes in business rates may also have a significant impact across hospitality, logistics, and parts of the retail sector. In combination, these will temper overall rental growth expectations in the short-to-medium term, but challenging development economics should ultimately provide a floor. We expect conservative levels of yield compression to feature this year, depending on the segment and quality of the asset. In contrast, sub-segments with structural concerns (such as PBSA) could see swift outward yield movement.
UK total return forecasts from September 2025
