More than two months have passed since the UK took the historic decision to leave the European Union. We canvassed reaction to the Brexit vote from within the property finance industry. Daniel Cunningham reports
As European real estate finance professionals return from their summer breaks, it is doubtful that there is much more clarity about the impact of Brexit on the market than there was before they went away.
There is certainly a greater sense of calm, as market players have seen at least some deals close and that “the world hasn’t come to an end” as one put it. After the initial political turmoil, the UK has a new government and the central bank has engaged its policy levers to steady the economy.
However, the long-term outlook for the market remains unclear and caution reigns. Since the morning of 24 June, Real Estate Capital has been speaking to market participants about the sector, post-Brexit. Here is a flavour of the feedback.
The immediate shock
The message lenders were desperate to put out in the immediate aftermath of the Brexit vote was that they remained open for business. Pausing for breath possibly, taking stock certainly, but not pulling down the shutters. However, it soon became clear that the shock of the referendum result would force an industry-wide reassessment of UK commercial property’s risk profile.
Speaking hours after the result was announced, a UK representative of a major international bank told Real Estate Capital that there would be a “slight pause” as term sheets of existing deals were freshly scrutinised to ensure that the risk remained within the bank’s appetite. Beyond that, there would be no knee-jerk reaction, the banker insisted. Another added that, although few had expected the voters’ decision, banks had had plenty of time to prepare for the eventuality and had stress-tested their loan books. “This is not 2008,” the banker said.
One debt advisor, Alexandra Lanni, head of transactions for Laxfield Capital, insisted that lenders had been closing deals with her borrower clients in the immediate run-up to the referendum and that she was convinced outstanding commitments would be honoured. “On one transaction in particular, the lender has indicated that it will be business as usual because the deal and the pricing are credit-committee approved,” she said.
There was immediate speculation as to how clearing banks would react. Mark Bladon of Investec Structured Property Finance said: “From a domestic lender’s perspective, we expect high-street lenders to reassess their lending terms considering how funding costs adjust in the medium to long term. This will also create opportunities for specialist banks that are able to react quickly to the new status quo.”
The market re-prices
In the weeks that followed, property deals stalled as investors either attempted to chip away at purchase prices or stepped away altogether. Financing activity subsequently dropped. However, deals did continue to be done, albeit on terms which were re-priced. Clearing banks had not withdrawn, several reported.
In a statement, John Feeney, managing director and global head of commercial real estate at Lloyds Bank, told this publication: “As the country enters a new phase, we remain committed to the commercial real estate market. We are proud to support many of the UK’s most skilful property investors and asset managers and we will be in close dialogue with them as plans and strategies are devised over the coming months to create and preserve value in this new environment.”
One non-bank lender, Natalie Howard of AgFe, this month described the post-Brexit landscape: “We have seen deals come back to us which clearers had previously under-priced us on, and which had since been re-priced by the clearers. Borrowers are speaking to lenders that can move quickly so they are coming to firms like ours.”
Other lenders in the weeks after the vote were clear that increased risk would need to be priced into UK margins, with an upward shift of 30 basis points predicted by some. By mid-August, several said that margins had risen by as much as 50 bps during the year, with much of the increase happening after the referendum.
“Lenders will ask for a premium to counter the leap of faith they will need to take to put a deal in front of their credit committee,” one banker said. “We will have to feel out the market again. During this period it will be all about who wants to take the most aggressive approach.”
Deal flow remains slow
One debt broker said that there was plenty of “navel-gazing” going on among lenders into early July. “They are seeking assurances from credit committees and head offices as to what they can and can’t do. The majority of people say they are open for business as usual, but they have to be cautious. I’ve not heard anyone say they’ve stopped lending.”
The slowdown in investment activity and therefore financing activity was well documented even before then Prime Minister David Cameron announced the referendum date in February. Several in the market hinted that the looming referendum was being used by many as an excuse to take a step back from an overvalued UK market. The Brexit vote has prolonged and exacerbated that slowdown.
“This is going to have an impact on larger deals,” one head of real estate lending at a major bank commented. “Some banks are holding back, so I would expect there to be less liquidity in the syndication markets for larger loans. We are looking at transactions now, but we will be more cautious about large underwrites. We might need a lending partner to join us up front in larger deals.”
International banks react
One Asian bank sparked headlines in late June by placing a moratorium on new mortgages for London residential properties. UOB (United Overseas Bank), which is based in Singapore, said: “As the aftermath of the UK referendum is still unfolding and given the uncertainties, we need to ensure our customers are cautious with their London property investments.”
However, foreign lenders with a strong track record in UK commercial property generally took a longer-term view.
Michael Kröger, head of international real estate finance at Germany’s Helaba, recently said: “Brexit has had an impact, but it is not the only factor having an impact on the market. The slowdown in the occupational and investment markets pre-dates the referendum. For the time being we won’t take major underwriting positions by ourselves, but we are open for business in partnership with other lenders and we are currently closing business. We still see the UK as an integral part of the European market. I know other German lenders sharing this view.”
Thomas Staats, head of origination for international property finance at Deutsche Hypo, added: “We are in our 23rd year operating in the UK, so we’ve seen plenty of market volatility over that time. Our strategy is to do more business in the UK and although it may be harder to achieve we remain committed to it. We aren’t taking currency risk as we refinance in sterling for UK business. Regulation could be an issue; we have European passport rights and we don’t know how that regulation will change.”
Not a repeat of 2008
The freezing of several closed-ended UK property funds to retail investors in the first week of July was heralded in the national press as the potential start of another property crash. Commercial property lenders kept their cool and were keen to draw the distinction between the market which imploded in 2008 and today’s more robust situation.
“Brexit won’t mean it is 2008 again,” said one debt fund manager. “The whole market is better capitalised than during the financial crisis. There is less debt in the property industry as a whole; almost 50 percent less than in 2007.”
CBRE published a report which said that provided that property values did not decline by more than 10 percent, the impact on risk-weighted assets relating to domestic banks’ commercial real estate lending is likely to be “manageable”.
“A fall in capital values and consequent rise in LTVs on existing lending could push up capital requirements, making historic lending less profitable and diminishing the availability of funds for future lending. However, in analysing some of the more adverse anticipated market scenarios, we find that any capital shortfall is likely to be minimal – a minute fraction of that facing the industry in the 2008/09 crisis,” said Dom Smith, head of debt analytics at CBRE.
On 5 July, Bank of England governor Mark Carney responded to the vote by freeing UK bank reserves. The central bank reduced regulatory capital buffers by £5.7 billion to encourage banks to keep lending. However, the governor’s decision in early August to cut interest rates for the first time in seven years, to 0.25 percent, signalled further pressure on lenders.
“The announcement of an interest rate cut feels like a sideshow that is likely to do more harm to savers than good to investor confidence or the economy. What the UK really needs right now is clear fiscal and investment policy from government to support economic growth,” responded Peter Cosmetatos, chief executive at CREFC Europe.
Although a ‘lower for longer’ interest rate environment will make it more difficult for real estate lenders to increase their pricing, some in the industry stressed that it can only make the asset class look more attractive to investors.
“With a low interest rate environment that may become zero, commercial real estate will likely continue to be seen as a store of value with a positive yield,” said Sukhdeep Dhillon, senior economist at BNP Paribas Real Estate.
The US view on Brexit: US real estate finance players have watched post-Brexit UK closely
While the UK‘s Brexit vote has dominated discourse in the European real estate finance market, it has also caused ripples in the US market. Real Estate Capital spoke to market players to gauge the reaction stateside.
“The real estate market in the UK is not going to be a pretty picture from any perspective. If people need parking spots for their investments and they feel that the London market is slightly unpredictable, they might come here.” – Hans-Christian Ritter, executive vice-president, Helaba Bank
“In the near term, it would seem that the US will remain a safe haven for capital and that commercial real estate will remain a go-to asset class for investors and may even attract additional foreign investment that may have been slated for Europe or elsewhere, given the returns still available in US real estate.” – Steve Theobald, executive vice-president and chief finance officer of lender Walker & Dunlop
“UK-denominated capital may be unwilling to invest in the US until the British pound sterling strengthens or it becomes clear that it will not.” – Richard Mack, CEO and co-founder, Mack Real Estate Group.
“What we have seen in the short term is a global flight to quality in the purchase of US Treasuries driving treasury rates down and lowering interest rates for permanent loans that are based off the treasuries as an index. Whether lenders will increase their spreads to keep the interest rates on the loans at pre-Brexit levels or keep spreads the same and pass on the benefit of the lower treasury rates post-Brexit to the borrower remains to be seen.” – David Harte, principal with advisory firm Ackman-Ziff Real Estate Group
“We’ve heard Asian, Middle Eastern, and European investors say they are probably going to focus on US gateway cities given the uncertainty now in the UK. But on the other hand, the UK pound has devalued substantially and that makes UK properties more affordable. We are also hearing that private Asian and Middle Eastern investors are circling London like hawks. But I don’t think there are going to be any fire sales in London.” – Brian Stoffers, global president of debt & structured finance at CBRE
“So far, investors are rearranging their assets to lighten up on the UK in favour of the US.” – Martha Peyton, managing director and head of research for TIAA Global Asset Management’s real assets division
“Brexit means more uncertainty concerning investment in England and Europe as a whole. As such, capital has to go somewhere, and therefore, it’s likely that more international capital will land in the United States.” – Andrew Kirsh, founding partner and head of the real estate practice at LA-based law firm Sklar Kirsh
“Our guess is that in the short-term, we go back into a February-like hibernation for new [CMBS] issuance. Until the markets settle, spreads stabilise, and we get a sense of what everything means for the rest of the Eurozone, we would expect new issuance to slow once again and for desks to be careful in their lending quotes.” – Trepp analysts