New entrants lend a hand in UK debt market revival

Non-bank players take a bigger role as new lending leaps 51%, reports Alex Catalano

The UK’s real estate debt market is well into recovery mode. De Montfort University’s latest UK Commercial Property Lending Market report found a much-improved picture, with new lending up 51% in 2014 and new entrants providing a bigger share.

Of the 44 active lenders, 84% planned to originate more in 2015, while 14% expected to keep originations steady.

REC 06.15 - p18Meanwhile, the total real estate debt mountain fell 8.5% to £165.2bn in 2014 as UK banks and building societies continued working out distressed loans. The value of loans in breach of financial covenants fell greatly, from £15bn to £3.5bn, while the value of defaulted loans fell 28% to £17.7bn.

“These trends indicate a healthy property lending sector,” said British Property Federation policy director Ion Fletcher. “The fact that, notwithstanding the rise in new originations, outstanding debt fell £26bn, indicates that the banking sector is doing a good job of sorting its problems out.”

New lending shot up to £45.5bn in 2014, almost back to 2008 levels (see chart). UK banks and building societies still provided the biggest chunk (39%), but their share is falling as international banks, insurers and other non-bank lenders enter the market.

The latter two categories accounted for 25% of new loan originations last year, up from 23% in 2013, while North American banks’ share rose from 5% to 11%.

Interestingly, the share of new lending for acquisitions fell, from 62% in 2013 to 51% in 2014. Conversely, lenders’ refinancing of others’ loans rose to 27%, while refinancing of their “own” loans (on commercial terms) remained stable, at 21%.

The report puts this down to an improved property market in 2014. The decline in acquisition finance reflected more purchases using equity and lack of stock for debt-backed buyers, it said. Rising capital values and banks’ adequate provisioning also meant that borrowers could find refinancing for previously distressed loans on sound assets.

Focus on investment property

New lending remains heavily focused on investment property, which accounted for 83.5% of the £29.9bn originated by UK banks, building societies and insurers in 2014. Any new development financing was skewed towards residential (12.5% of the total) with commercial development at 4%.

Other non-bank lenders were keener on development. Of the £6.1bn they originated, 13% went to commercial projects, 9% to residential and 4% to other development.

Central London continued to account for the lion’s share of loanbooks, growing to 38% for traditional bank/building society/insurance lenders. The share for other non-bank lenders was even higher, at 55%, though this was down from 59% in 2013.

“This is slightly surprising, as regional real estate picked up in 2014,” notes Fletcher, suggesting that the regions might have seen a net outflow of credit if new originations were not yet enough to replace the loans banks were taking off their books.

Loan-to-value ratios have been rising since 2012 and that trend continued. Prime offices registered the smallest rise in 2014, up 0.35% to 63.6%, while secondary retail saw the biggest rise, up 2.17% to 61.4%.

As the market recovers and UK banks clear out legacy loans, the LTV levels of their investment loanbooks has become more conservative. In 2014, 77% of outstanding debt had an LTV of 0-70%, compared to 63% for 2013.

Similarly, the proportion with LTVs over 100% fell from 19% to 9%.

Margins continued to head south; three-fifths of active lenders polled said they had dropped them in the second half of 2014. For senior debt, banks’, building societies’ and insurers’ average margin was 173bps for prime offices, 94bps lower than 2013’s average. For the first time since 2007, the lowest recorded was 100bps.

The report also found that the lowest prime commercial real estate margins offered by other non-bank lenders, at 130-
150bps, were comparable to those offered by UK banks, building societies and insurers.

But for secondary investments, the cheapest debt – senior, junior or mezzanine – came from non-bank specialists in financing value-added opportunities.