The clock is ticking. With just over seven months until the UK leaves the European Union, political chaos reigns and a ‘no deal’ Brexit is a possibility. However, many real estate finance professionals are quick to downplay the effect uncertainty is having on their market.
“So far, I haven’t noticed any real Brexit-related impact on commercial real estate finance,” insists Steve Williamson, London-based chairman of CBRE’s debt and structured finance unit in the EMEA region. “When the referendum was held, there was nervousness in the market for a brief period of time and a few transactions didn’t progress,” he explains. “But then, quite quickly, the market returned to normal.”
Lenders can point to robust market figures. UK property lending volumes of £44.5 billion (€50.6 billion) in 2017 were almost unchanged from the previous year, according to the Cass UK Commercial Real Estate Lending Report. Although this suggests lenders are maintaining, rather than growing, loan books, industry players insist there is no liquidity crisis brought about by political headwinds.
“I haven’t seen a lack of debt capital or any lending gap in the UK after the Brexit vote,” observes Christian Janssen, head of European debt at TH Real Estate. “The market has been very resilient, which could be related to the fact that leverage offered by lenders or demanded by borrowers isn’t very high.”
Average loan-to-value ratios in UK lending during 2017 remained below 60 percent, according to Cass. Tyler Goodwin, chief executive of London-focused commercial real estate investor Seaforth Land, echoes Janssen’s view: “Today, borrowers and lenders in London are speaking the same language: we both want conservative finance.”
Lenders can also point to the increase of new entrants into their space as well as the continued presence of overseas banks willing to finance UK property.
“International lenders have not pulled out from the market,” says Madeleine McDougall, global head of commercial real estate at Lloyds Banking Group. “US investment banks are very active on some of the large-scale complex transactions. We’re seeing the Asian banks continuing to follow their capital over from the Far East into the UK, and German banks continue to be incredibly active.”
Many argue political risk has been priced into UK real estate debt since soon after the March 2016 referendum. Senior margins on prime London office investment loans stood at 1.5 percent in Q1 and edged down to 1.4 percent in Q2, according to CBRE’s European Debt Map. Lenders do not seem to be raising pricing as the EU exit nears, although UK margins do command a premium to other core European markets. Cass figures also show a moderate rise in average loan margins between 2016 and 2017 across the survey’s huge sample.
Despite fears Brexit would dampen global investor demand for UK real estate, JLL’s full-year UK investment figures show £64.7 billion for 2017, up from around £46 billion in 2016. The first half of 2018 was less flattering, with £12.4 billion completed.
“There’s a lot of discussion about Brexit and what that means, but two key aspects – the office investment and its occupational market – have been incredibly resilient,” argues McDougall. “The footprints of some big financial services firms have been reducing, but this has happened since the financial crisis, so it’s not necessarily an aspect of Brexit. At the same time, companies like Facebook, Amazon and Google are all taking massive amounts of space in Central London and occupancy levels have continued to tighten.”
Central London investment volumes were down in Q1 2018, reaching £2.4 billion – half the amount in the equivalent quarter last year, JLL data show. However, the vacancy rate fell to 4.8 percent, remaining below the 10-year average.
More than two years after the Brexit vote, demand for core London assets from overseas investors – particularly from Asia – remains strong. Brexit has been an indirect driving factor, with the fall in the value of the pound encouraging overseas investment. Although sterling has since strengthened, the Asian buying spree has continued, with Hong Kong and South Korean buyers active in recent months. In June, for instance, Hong Kong-based CK Asset Holdings bought 5 Broadgate, UBS’s London headquarters, for £1 billion.
“Asian investors see Brexit as a risk, but they really like the long-term fundamentals of London, with higher yields compared with other European cities and a wider occupational market,” McDougall says, adding that, to speed up execution, some Asian investors have bought with equity, with the view to refinance later.
The amount of Asian capital invested into City of London offices hit a record volume for the first half of the year with £3.39 billion, representing around 70 percent of the total investment volume, according to Savills.
“If you are an international buyer looking to deploy money overseas, then you will probably target global cities. That has certainly helped London, where we see large transactions continuing to trade despite the uncertainty surrounding Brexit,” CBRE’s Williamson says.
Brexit is also cited by some as a factor in the influx of capital into debt vehicles, including in the UK market. As investors aim to hedge late-cycle risk, more have been putting money into debt, which offers downside protection. TH Real Estate, for instance, last year struck a deal to lend on behalf of The Korean Teachers’ Credit Union to invest in UK commercial real estate debt.
“At this point in the cycle, given that debt offers downside protection compared with equity investments, as the latter would absorb the first loss in a falling market, [debt] provides a more sustainable investment basis,” says TH Real Estate’s Janssen. “I also think some Asian investors prefer to enter the UK property market through debt, as a starting point to then invest in equity.”
REASONS FOR CAUTION
While lenders in the UK market can point to robust real estate fundamentals as evidence Brexit is not derailing their market, most will list the UK’s EU exit among potential threats. While Brexit is discussed as an ongoing saga, the fact is, it has not happened yet, and the reaction of the occupational and investment markets cannot be taken for granted.
While core UK property investment has ensured buoyant transaction volumes, sources point to those US private equity investors selling UK property due to downside fears and putting money to work in Continental European markets instead. In certain parts of the market, investors fear Brexit and some talk of uncertainty in UK pricing.
While debt liquidity has not been hit severely, some foreign lenders have made statements about their cautious approach to the UK, due to Brexit. Germany’s DekaBank – which recently financed Korean investors’ acquisition of London’s 20 Old Bailey and 70 Mark Lane office buildings with debt facilities of £204.6 million and £120 million, respectively – said in its latest annual financial report that exposures in the UK have been “closely watched” since the Brexit process was triggered.
Its German peer, pbb Deutsche Pfandbriefbank, also noted in its full-year 2017 figures that its new business in the UK was “markedly” lower last year, accounting for 13 percent of new lending, down from 18 percent in 2016.
“We have adopted a more selective stance in the UK, given the uncertainty brought about by Brexit,” the bank said. In its 2017 annual report, pbb also noted it will continue to be selective when it comes to finance property during 2018, although the group “continues to believe that the British real estate market will remain attractive”.
With seven months to go, many real estate lenders do not fear Brexit. Rather, they hope cautious lending practices will see them through an unprecedented period. However, as the official Brexit date approaches, investors – and lenders – will be keeping a close eye on headlines, and their peers’ reactions to them.