Lenders Stick To Their Own And Retreat From UK Real Estate

New lending to UK real estate dropped sharply in the first half of the year, as financiers of all types cut lending on new deals and worked with existing borrowers to try and manage their loan books. 

Lending to real estate fell 34% year-over-year to £15.5B at the end of June, according to new data from City University Business School (formerly Cass Business School), which showed the majority of this activity was the refinancing or extension of existing loans.

“Lenders are working with existing borrowers, extending loans and waiving covenants, and are not really looking for new loans or new borrowers,” The Business School Senior Research Fellow Nicole Lux told Bisnow in an interview.

Of the lending undertaken, 58% was refinancing or extensions. Historically, about 40% of origination is refinancing. 

Lux said 22% of the 76 lenders surveyed for the UK Commercial Real Estate Mid-Year Report had not undertaken a single loan in the first half of 2020. She predicts lenders are likely to remain incredibly conservative until a solution to the coronavirus pandemic is found. 

While debt is likely to be scarce in the coming months, it is worth providing some historical context: The £15.5B originated in the first half of 2020 is more than double the £7.4B originated in the first half of 2009. The contraction of credit is nothing like that seen in the wake of the collapse of Lehman Brothers. 

It is the second consecutive half-year period when new lending to the sector has fallen, with the second half of 2019 hit by Brexit uncertainty. The total outstanding debt secured against UK real estate is £185B. 

The debt that is available is more expensive and more conservative. Loan margins have increased across the board by 20-50 basis points, and average loan-to-value ratios lenders will offer have hit a historic low of 50% to 55%. 

The data also pours cold water on an idea that instinctively rang true as the current crisis unfolded — that debt funds would step in and take the place of traditional UK banks. In fact, the report showed that both banks and non-bank lenders had seen their share or origination drop by about 4%, with international banks picking up the difference. 

“People always feel that it will be the debt funds that step in, but we found as many debt funds as banks reporting that they are closed for new business,” Lux said. 

In terms of different real estate sectors, the report unsurprisingly made for grim reading for retail. Only seven of the 76 lenders surveyed said they would consider lending to retail, and only two of them said they would lend to shopping centres. 

In spite of this, the overall amount of debt held against retail property did not decline, the report said, as lenders chose to extend debt rather than enforce on assets that would only sell for rock-bottom prices. 

Rented residential, for some years a sector where it was somewhat difficult to find debt, was the sector most in vogue, accounting for 29% of new origination in the first half of the year.

Office was the second-largest sector, at 24%, and Lux said lenders disagree as to how risky it will be to lend against office assets in future, given the changes happening in the sector right now. 

“It’s split, and there is a lot of debate,” she said. “There are some that believe there will always be a focus on prime offices in London or other big European cities, that vacancy rates are low and there will always be a demand for that space as people have to go back to the office. Then there are others who believe that you are seeing the structural change that has already happened in retail now happening in offices. The way it is showing itself is much more caution about underwriting where rents will go.”

Lux also gave an interesting insight into how the lenders surveyed in the report are dealing with problem loans. The report showed that £9.5B of debt secured against retail assets needs to be refinanced over the next two years, plus another £13.5B of debt secured against assets that might be struggling operationally, like hotels, student accommodation or care homes. 

Lux said lenders were happy to waive LTV covenants and extend the maturity date of loans — but only if the interest was being paid. Banks are better capitalised and better able to deal with distressed debt than during the financial crisis, but their patience is not infinite. 

“If the owner or equity provider is happy to put in more cash to support the income on assets that might have operational challenges, at the very least through to next year, then lenders are happy to support borrowers,” she said. “But they need to see that, that is the key.”