De Montfort University’s annual property lending survey reveals that property’s debt mountain has fallen to a new post-crisis low, the number of loans in breach or in default has been slashed and new lending to the sector has risen sharply. Borrowers are benefiting from better availability of finance and significantly lower margins and fees.
The report paints a picture of a lending market in the sort of rude health not seen since the late 1990s and early 2000s.
But the market has changed considerably in the intervening years. The process of recovery has transformed the shape of the industry and spawned whole new breeds of lender. As UK high-street banks worked to repair their balance sheets in the wake of the crisis, foreign banks, debt funds and insurers ate into their market share.
For the first time ever, this year’s report shows the share of out-standing property debt accounted for by UK banks has fallen to less than 50%.
That said, there are some caveats to the largely positive picture of the market. Financing for development remains constrained, particularly for speculative projects and the appetite for lending in the regions and on small deals is also limited.
Furthermore, evidence is emerging of a surge in high loan-to-value loans - leading some to caution that the mistakes of the past are in danger of being repeated.
The headline figure from the De Montfort report relates to the total amount of outstanding debt secured against commercial property. This fell by 8.5% to £165.2bn at the end of 2014. The figure peaked at £225bn in 2008 and has declined steadily since, as loans have been repaid and sold.
The reduction in outstanding debt is similar to that of 2013, but seen as more significant because of the higher level of new debt originated during the year. New lending increased by 51% to £45.2bn - which is well below the £80bn seen in 2007, but still by far the highest level seen since the financial crisis. What’s more, activity picked up as the year went on, with £6bn more lending done in the second half of the year than in the first half.
“There appear to be significant equity injections into transactions and the debt is repaying faster than new originations are adding to the outstanding balances,” says Chris Holmes, head of EMEA debt advisory at JLL, one of the report’s sponsors.
“This suggests the velocity of capital in the market is increasing, which is what I observe in terms of debt activity tracking strong property trading volumes.”
The overall health of property loan books looks far more robust than at any point since the crisis. The surge in property values last year helped slash the portion of outstanding debt with an LTV ratio of more than 100%, from 19% in 2013 to 9%. Furthermore, the value of distressed loans, either in default or in breach of financial covenant, more than halved from £44.7bn to £21.1bn.
“The commercial real estate lending market recovery is now well and truly established, with the further reduction of outstanding loans and the significant fall in the number of distressed loans indicating a healthier and more competitive market than we have seen for years,” says Melanie Leech, chief executive of the British Property Federation.
The last couple of years has also seen the range of new lenders grow, giving borrowers greater choice than they had in the last boom. UK banks and building societies accounted for 39% of new lending in 2014, down from 43% the previous year, and non-bank lenders, insurance companies, German banks, North American banks and other international banks now all have double-digit market shares.
The upshot is that the proportion of loan originations completed by the 12 most active lenders has fallen to 60%, from 63% in 2013 and a peak of 82% in 2010.
Leech says this diversity is good for borrowers and good for market stability. “Not only will a larger presence of non-bank lenders provide our sector with alternative sources of finance - lenders with different investment horizons and business strategies; a more diverse finance market can also contribute to financial stability by spreading exposure to UK real estate among a greater range of investors,” she says.
The other piece of good news for borrowers is that increased competition has driven down margins and fees.
However, borrowers are not having everything their own way. Development lending remains constrained with commercial projects accounting for just 4% of new originations from banks, building societies and insurers, down from 6% in 2013.
Non-bank lenders remain the main source of this type of finance, with 13% of their new lending allocated to commercial development.
The lack of debt available for speculative development is especially worrying and could constrain the growth of small occupiers in particular, warns Leech.
Availability of financing in the regions is also a concern. This has contributed to the growth of central London’s share of outstanding debt from 26% in 2010 to 38% last year.
Part of the problem is that lenders prefer to sign big cheques than get involved in smaller deals. Whereas 29 lenders say they would lend above £100m, willingness to lend drops off sharply below £20m and only 16 lenders say they would do deals below the £5m mark.
“We have been seeing reductions in loan books and legacy debt, which is a good sign for the market generally. But where the market still has some issues is that a lot of lending seems London-centric,” says Bill Maxted, the De Montfort academic who authored the report. “There are a whole variety of reasons for that, but it remains an issue for the UK’s regional economies.”
Looking ahead, the vast majority of lenders reported they wanted to become more active over the course of the year. Of those surveyed, 84% said they intended to increase new lending, compared with 62% at the end of 2013.
The confidence in the market was evident at last week’s Loan Market Association real estate finance conference, where some bankers were predicting that the outlook was now set fair until 2020. The danger now is that over-exuberance could take hold.
There is certainly evidence of growing demand from borrowers for higher-leverage loans.
Earlier this month, the Laxfield UK CRE Debt Barometer reported that half of all requests in the past six months were for loans with LTVs of more than 65%, compared with 35% in the last barometer six months ago.
Emma Huepfl, head of capital management at Laxfield, has called it a two-tier market - with institutional and private investors continuing to take a conservative approach to lending, while a growing band of other investors seek higher leverage to maximise short-term returns.
As margins fall, lenders seeking higher yields are also increasingly willing to lend at higher LTVs.
JLL’s Holmes says the market has reached a point of inflection. “This is a fascinating point in the market: the survey points to continued deleveraging on average in volumes and LTVs,” he says.
“Yet I know the market feels high octane, fuelled by deeply liquid banking and capital markets.”
For the right assets, a new era of cheap and easily available debt has emerged. For now, few in the market are concerned about the prospect of a bubble, but for the first time in a long time people are asking the question.