Market insight Rental forecast
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Rental forecast

Last year we forecast that rental growth would slow in 2022 after a record breaking 2021. However, rents rose more sharply than we expected. We now think that, while rising interest rates are set to dampen or even stifle house price growth, they are likely to have the opposite effect on rents. Landlords will be seeking to pass on higher borrowing and costs onto tenants. As a result, we are revising upwards our forecasts for rental growth in 2022 to 6% - and also pencilling in much higher rents in 2023, 2024 and 2025.

Even before interest rates moved upwards, landlords were coping with extra costs and legislation. Landlords in London and the South East have been the hardest hit due to high prices and lower yields. The changes to mortgage interest tax relief mean that higher-rate taxpayer landlords with a mortgage are taxed partly on turnover rather than profits.

Over the coming months some landlords face mortgage payments as much as 40% above those of 2021 when loan deals were at their cheapest. If these landlords wish to borrow to acquire new properties, particularly in areas with rental yields of below 5%, they will require deposits, larger than the typical 25%. This will restrict buy-to-let to investors with even deeper pockets.

With mortgage rates of 3.5% to 4.0%, interest payments are likely to eat up a little over half the rental income of an investor putting down a 25% deposit in areas with average yields.

The government White Paper - A Fairer Private Rented Sector - has the potential to increase investor costs further, as does the proposal for all rented properties to achieve an A-C Energy Performance Certificate (EPC) rating by 2025. More reforms of the private rented sector are possible and would further reduce landlords’ profits.

As a consequence, more landlords will opt not to add to their portfolios. Some will quit the business, preferring to invest elsewhere for better returns. This will further reduce rental stock which has consistently remained at around half of its pre-Covid level.

Landlords who remain in the game have been able to increase rents substantially over the last year, as tenants compete for properties. Rising interest rates will likely see some would-be first-time buyers renting for longer, reducing the flow of households moving from renting into ownership. In July rental growth hit 8.3%. However, rental growth is still less than wider inflation.

We forecast that rents will rise 5.0% in 2023 and 2024, driven by London and the South East. Rental growth should moderate in 2025 to 4.0%. The impact of the cost of living squeeze on tenants’ salaries will constrain rises to this level, however.

Rental yields are likely to move upwards throughout the forecast period, reflecting the combination of weaker price growth and rising rents. We expect gross yields to increase from 6.1% to 6.7% nationally between 2022 and 2025. Net yields (after all costs are accounted for) on the other hand are likely to remain broadly flat, or even fall slightly.

Lower rental yields in London will make it harder for landlords in this area to absorb rising costs than their counterparts in the North. The supply of rental homes in the capital seems set to shrink further, pushing up rents.

Over the forecast period we expect to see the yield gap between the North and South close from 2.2% to 1.8%. This will be the result of higher rental growth in the South, putting upward pressure on yields, and also by landlords in this region selling off lower-yielding properties on which they stand to make a loss, as their costs mount.

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Autumn Forecast 2022

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Autumn forecast 2022
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