What we learned from Cass

The latest iteration of the biannual UK commercial property lending market survey by Cass Business School paints a relatively rosy picture. After two years without growth in new lending, loan originations increased by 27 percent to £22.5 billion (€25.7 billion) during the first six months of the year. Beyond this key finding, the report reveals several trends shaping the market. Here are the ones that piqued Real Estate Capital’s interest:

There was more acquisition lending than refinancing. Of total debt origination, 53 percent financed acquisitions. This is a reversal of a trend seen since 2016, when refinancing totalled 61 percent of dealflow. The uptick in acquisition financing suggests a greater need for debt to back robust investment activity in the UK market. Despite market uncertainties, £31.5 billion of capital was invested in the UK across 1,314 transactions in H1 2018, roughly in line with the same period in 2017, CBRE’s data show. Overseas investors, particularly from Asia, continue to flock to London. The opportunity to secure a prime asset in Europe’s top destination for real estate investments, now that the pound is cheap, is appealing for those investors with a long-term view. Lenders should expect more flows of institutional capital pouring into London, and strong competition for the most prime assets.

UK banks are busy. In H1 2018, UK banks wrote £10 billion of new lending, which is £2 billion more than in the first six months of 2017. Clearing banks – including Barclays, HSBC and Lloyds – take advantage of their client relationships and track record to source substantial refinancing business, meaning they are maintaining strong positions in the market. At the lower end of the scale, challenger banks are targeting smaller deals in the commercial real estate investment space. Metro Bank is one such emerging lender, with financings such as the £14 million loan to fund Kingsway Properties’ acquisition of a five-storey office building in central London or the £30 million development loan provided to Canary Wharf Group to build a private members club in London, among recent deals.

Brexit fear is prompting financing deals. This might be counterintuitive, but borrowers, rather than delaying their refinancing decisions until Brexit happens, seem to be refinancing before the UK leaves the EU. The move could be an attempt to secure long-term financing before interest rates rise in the event of a no-deal Brexit, as suggested in September by Bank of England governor Mark Carney. It might also be in anticipation of rising margins. Pricing is currently competitive; lender competition for prime office assets, particularly in London, has driven senior margins further down to 194 basis points, from an average of 203bps in 2017.

Retail is in the doldrums. Lenders have made a conscious choice to increase margins for secondary retail to an average of 300bps, up from 285bps seen last year, Cass’s data show. The move demonstrates lenders’ reticence to back a segment that is going through unprecedented change, mainly due to strong penetration of e-commerce sales. Investors have also pulled their support for retail: volumes for the first six months of 2018 reached £592 million, down 39 percent on the same period last year, according to Savills. Investment activity, and debt opportunities, for distressed assets might hit the market soon, though. A wave of refinancing for highly leveraged assets experiencing shrinking income will reveal falling valuations at breaking point.

Email the author: alicia.v@peimedia.com