CBRE’s Third Sustainability Index Highlights Continued Higher Performance for Efficient Properties

Energy inefficient commercial property assets in the UK have continually underperformed in terms of total returns and capital growth, compared to energy efficient assets, since the launch of CBRE’s Sustainability Index in 2023. The real estate advisor’s newest Index reports the performance gap is still evident despite narrowing slightly over the first half of 2024.

Since publishing the first Index results last November, all energy efficient commercial property assets have recorded total returns of 11.2%, compared to 7.0% for the inefficient sample. However, in H1 2024 inefficient total returns were slightly stronger than for the efficient sample at 2.3% and 1.7% respectively.

Over H1 2024 capital growth for all efficient assets was -0.4% for efficient assets compared to -0.3% for inefficient assets. Rental value growth was marginally higher for the efficient sample at 1.7% compared to 1.5% for inefficient properties over this period.

Jennet Siebrits, CBRE’s Head of UK Research, said: “Taking a view over the history of the index, we see that inefficient assets have underperformed efficient in terms of total returns and capital growth across all sectors. This performance gap is still evident despite narrowing marginally over the first half of 2024.”

“The slightly stronger performance of inefficient stock in H1 2024 could reflect a perception that some inefficient assets are good value for money after significant discounts throughout 2022 and 2023.”

“Moreover, some investors are increasingly adopting 'brown to green' value-add strategies whereby less efficient assets are acquired at a discount and retrofitted for improved efficiency, increasing asset value. An interest in some less efficient assets may account for the slight uptick in performance for inefficient samples.”

“Despite these trends, we do not expect they represent a fundamental change in the relationship between sustainability and investment performance.”

Sam Carson, Head of Sustainability for Valuation and Advisory Services at CBRE UK, added: “The third iteration of the CBRE Sustainability Index continues to be a valuable tool for describing the relationship that sustainability features have with the commercial real estate market. Given the low transaction volumes of the past year, it should not be surprising that the results if the first half of 2024 have been less conclusive than in the past. However, by maintaining updates to the index we can continue to reflect how ESG risks are being priced by asset investors and occupiers.” 

Office Sector

The wide performance gap between efficient and inefficient assets in the office sector continued into 2024 and is now at its widest in the history of the index for rental values. 

In H1 2024, total returns for efficient offices were -0.3% compared to 0.3% for the inefficient sample, narrowing the returns performance gap marginally. Capital value growth was -2.3% for efficient offices compared with -2.0% for inefficient assets. Rental value growth was 2.3% for efficient assets and 1.6% for inefficient.

Siebrits said: “The Offices results reflect a deceleration in value declines compared to the previous year, suggesting price discovery is starting to occur in both the efficient and inefficient groups. Heavily discounted inefficient offices may be starting to attract value-add investors aiming to carry out brown to green conversions.”

Industrial Sector

Over the history of the index efficient and inefficient industrials have reported broadly similar performance, albeit with efficient assets recording greater total returns and capital growth.

While there was still a performance gap in Q2 2024, it narrowed marginally over the first half of 2024. Total returns for the inefficient sample were slightly higher at 3.2% compared to 2.2% for efficient assets. Capital growth for the efficient sample was 0.3%, whereas values for inefficient industrial assets rose 0.7%. Inefficient industrial assets delivered stronger rental growth over the first half of the year at 2.2% compared to 1.8% for efficient assets over the same period.

Siebrits added: “Faster rental growth for the Industrial inefficient sample could be complicated by tenant preference for older stock in better locations with potentially poorer EPC ratings.”

Retail Sector

The Retail sector has historically displayed a significant underperformance by inefficient assets, although this is related to sample composition (1). This performance gap continued in 2024, but both efficient and inefficient assets appear to be benefiting from improving sentiment in the sector.

Both samples reported total returns of 3.8% in H1 2024. This is the first 6-month period in which total returns have risen for both groups since Q2 2022. Efficient retail assets reported stronger capita growth at 1.1%, compared to 0.7% for the inefficient sample. The efficient sample recorded rental growth of 1.1% compared to 1.0% for inefficient.

Notes

The Sustainability Index tracks the capital value growth, rental value growth and total returns of assets categorised as either efficient or inefficient based on Energy Performance Certificates (EPCs). Assets with EPCs that are predominantly A or B are categorised as efficient and assets with EPCs that are predominantly C or lower categorised are as inefficient. As at Q2 2024, the index was based on more than 1,200 assets valued regularly by CBRE, with a total capital value of £24.4 billion.

(1) The efficient sample disproportionately comprises retail warehouses, which have outperformed other retail asset types over the period spanned by the index.