Stronger economic sentiment and a more buoyant employment market have translated into increased corporate budgets and a pick up in the prime lettings market in the first half of 2014, finally restoring average prime London rental values to their 2007 peak.

The pace of recovery remains slow but steady in a market where demand is largely matched by supply, in contrast to the stock-constrained mainstream markets, and all prime London market segments are now in positive growth, according to the latest analysis from international real estate adviser, Savills. 

After rising just 0.6 per cent in 2013, rents are up on average 1.4 per cent year in the second quarter of this year, outperforming underlying house price growth for the first time since September 2010, the firm's prime lettings index shows. 

Depending on location, growth has been driven by the family housing market, rising corporate relocation budgets and ongoing demand from singles and sharers in markets such as the east of City hotspots of Wapping and Canary Wharf, which have outperformed all prime London locations, rising 3.1 per cent year to date.

Please view the Savills Prime Locations Lettings Index

Rents in core prime central London locations have grown by 1.8 per cent over the past quarter and by 2.9 per cent year to date, following -1.9 per cent falls in 2013.  The return of the family market saw rents for central London houses rising by 3.4 per cent in the second quarter, with international occupiers now accounting for three-quarters of all tenants.

Yields in these core central locations such as Mayfair, Kensington and Chelsea, currently average 2.9 per cent, with investors most motivated by capital value growth and a secure store of wealth.  Yields vary and are highest for properties worth less than £2 million, though rarely exceed 4.0%.

In contrast, income return is much more of a consideration for investors in the lower value Canary Wharf and Wapping markets which have more in common with the UK mainstream market, delivering an average gross yield of 4.3 per cent for a typical two-bed property worth around £700,000, rising to 5.1 per cent for a one bed.  Investor and owner-occupier demand has pushed east  of City capital values up by 10.1 per cent in the year to date, compared to just 2.5 per cent for prime central London.

In the capital's prime commuter zone average rents rose by 0.9 per cent, following a strong first quarter when it outperformed London.  This is a reflection of the ripple of demand from London seen in the sales market, and over the past 18 months people moving from London have accounted for  20 per cent of all tenants, with more than half focused in inner commuter locations such as Guildford and Windsor.

"Prime London rents have been suppressed by reduced budgets and rising stock levels, so while we expect increased corporate budgets and a wider tenant occupation pool to continue to drive demand, we also expect rent rises to continue to be relatively modest," says Sophie Chick, Savills residential research analyst.

"The supply pipeline in some prime markets is looking full, particularly due to the expected injection of new build investor stock and this will suppress growth potential.  We expect the east of City markets to absorb its increasing supply pipeline, assuming the planned development stock matches the profile of demand.

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