Development lending hits record high

Lending to UK property development reached a record high in 2017 with £22bn of committed real estate debt in development finance, according to the Cass UK Commercial Real Estate Lending Report. Lenders issued £8.7bn of new development loans last year – up by 11% on 2016 – with UK banks and building societies supplying 55% of the total. The report, commissioned previously by De Montfort University, showed that total loan origination stayed flat at £44.5bn. The total value of outstanding loans was similarly stable at £164.5bn. However, because of the increase in development funding, undrawn commitments rose from £26.6bn at the end of 2016 to £34.5bn. That meant the total value of outstanding loans including undrawn amounts rose from £191bn to £199bn, year-on-year. Nicole Lux, author of the report, said the increase in development funding was owing to the increased search for higher margins in a competitive industry. Residential development funding was particularly attractive for lenders, she said, because it offered more security than other higher-margin sectors such as retail. Lux said: “You would rather do a good residential development than a secondary shopping centre in a secondary town somewhere in Wales. The development risk is actually easier to control.” Insurance companies, for example, dedicated 11% of their new lending to development – up from 5% in 2016 – and all of it went to residential development funding. PRS is particularly attractive for insurers because of the long-term, diversified income that it provides. Melanie Leech, chief executive of the British Property Foundation, called the increase in residential development funding encouraging, adding: “At a time when government is focused on tackling the issues caused by at least 20 years of housing undersupply, this increased investment into creating new, high-quality homes will provide much-needed new homes to support the UK’s productivity, economic growth and social wellbeing.” Has property lending stagnated? Lending in 2017 started off slowly with first-half figures down by 24% on H1 2016. However, activity picked up again in the second half, balancing out that fall. That activity, Lux said, is part of investors’ plan to lock in better deals before interest rates rise again. She said: “Investors are aware that interest rates might rise, and at the moment a lot of them are going to think about refinancing and getting better loan terms. As long as loan terms are favourable and rates are low, there is continuous refinancing from investors.” Investors have looked for short-term loans to take advantage of the peaking property cycle. In the report, Lux said: “Borrowers are still focused on quick financing turnaround to take advantage of declining property yields and low interest rates rather than locking in low rates for the long term.” As a result, 73% of debt is due for repayment in the next five years, compared with 60% in 2007. Who is lending to property? Debt funds – categorised as “other non-bank lenders” in the report – ramped up their activity in the UK last year, originating 37% more loans than in 2016. They increased their market share from 10% of new loans to 14%. Although the report shows that insurance companies have cut their origination activity by 9% and account for 10% of origination, part of that slowdown is from insurance companies using debt funds to lend indirectly to property. Taking indirect lending into account, the share of loan origination by insurance companies is 18%. The growth of lending from non-bank lenders is a result of investor demand shifting toward higher loan-to-values. While average LTVs are still falling, thanks to strict regulation on banks, investors increasingly demand higher LTVs, particularly for commercial and residential development or as a way of releasing equity when refinancing. Unlike banks, insurers and debt funds are able to provide loans that can go as high as 85% LTV. Despite that, UK banks and building societies accounted for 48.2% of all loan origination in 2017 – the highest share the sector has had since 2011. To send feedback, e-mail karl.tomusk@egi.co.uk or tweet @ktomusk or @estatesgazette