Every quarter, my colleagues in Deloitte’s economics team survey more than 100 CFOs, many from FTSE 100 and 250 companies, asking a consistent set of questions to gauge business optimism. The results offer a fascinating economic perspective, especially when viewed over time, and of course they provide very relevant context to any discussion over the outlook for real estate. View the Deloitte CFO Survey.
Business optimism rises
The latest survey paints a mixed picture. On the one hand, CFOs ended the year in better spirits than at the start: business optimism is at an 18-month high, corporate risk appetite is rising, and financing conditions remain benign. On the other hand, these improving readings don’t yet signal a return to normality. Perceptions of economic and financial uncertainty are still elevated, while CFOs remain defensive in their outlook, choosing to prioritise cost reduction and cashflow management over expansionary strategies. Appetite for entering new markets, or introducing new products or services, has waned since last quarter. In short, CFOs are not focusing on the sort of activity that tends to increase occupational demand for real estate.
Do rental movements track hiring sentiment?
But just how strong is the link between CFO sentiment and real estate? One way to consider this is by looking at the relationship between CFO hiring intentions for the year ahead, and reported rental growth. As the chart below shows, it turns out there is very a strong correlation between the two series.
There are some obvious caveats. Firstly, there is the standard health warning that correlation does not equal causation stands paramount. Secondly, the best correlation comes when the rental data lags the CFO data by a quarter (i.e. rents take a quarter to ‘respond’ to any change in CFO hiring intentions). This implies that CFO hiring intentions data may act as something of a lead indicator. However, accounting for the time taken to compile property statistics, the CFO data may in fact be less of a lead indicator, and closer to a coincident indicator. Yet despite the limitations of the data, it is hard to dispute the logic that CFOs’ hiring intentions should tell us something useful about rental trends.
The latest survey shows that CFOs have become less negative with regard to hiring, implying a better outlook for rental growth - assuming that the relationship in the chart holds up. And looking further ahead, fewer CFOs now believe that the effect of Brexit will reduce their hiring levels over the next three years: six months ago, 66% predicted a negative impact, but today that figure has fallen to less than 40%. A tougher test of the relationship will come once article 50 has been triggered.
CFOs raise interest rate expectations
Respondents to the CFO survey also give their view on wider macroeconomic indicators, including base rates. Here too there has been a significant change in sentiment, with a majority now expecting base rates to be above the current level of 0.25% in a year’s time, compared with a majority expecting no change three months ago. This mirrors the trajectory of UK (and of course US) bond markets, where Gilt rates have been rising for a number of months.
However, the impact of rising interest rate expectations doesn’t offer up as neat a correlation with real estate data as CFO hiring expectations. What can be shown is that, during the eight main periods of monetary tightening since the mid-1970s, capital values have tended to continue to rise. In general, the more drawn-out rises correlated with the stronger periods of capital growth – sharp shocks were less helpful – while the overall basis point increase had only very limited correlation with capital growth. Today’s context is one in which the consensus outlook for capital values over the next few years is already muted, but if CFOs turn out to be right, the consolation will be that a slow, predictable uptick in base rates is less likely to pile further downward pressure on values.