Lenders in secured commercial real estate debt markets pushing ahead during H1 2018.

By Amy Ripley (PR & Communications Manager), Published (Updated )

  • New loan origination ended at June 2018 with £22.5bn, 27 per cent above H1 2017 one year before
  • Seven out of the 12 most active originators were UK Banks, while another two were Other Non-bank Lenders
  • Prime lending margins continue to be under pressure falling to 194bps from 203 for prime office financing.

According to the Cass Business School UK Commercial Real Estate Lending Report new lending for H1 2018 finished 27 per cent ahead of volumes 12 months earlier. Despite concerns over Brexit, H1 2018 origination reached £22.5bn for the first six months. Lenders with balance sheets of £1 – 5bn were the most active group responsible for 45 per cent of new financing.

Substantial increase in new lending during first half of 2018

The most comprehensive study of the UK’s commercial property lending market shows that a substantial amount of new lending was agreed during the first half of 2018, with 53 per cent coming from new acquisition financing. The amount of undrawn development facilities remains high with £30.6bn, while sales and completions of new build residential slowed down.

Of the £22.5bn of newly originated loans 61 per cent targeted London and the South East, while 14 per cent was financing portfolio transactions across several regions. Fewer lenders were financing transactions of single properties in specific regional locations. However, UK Banks & BS dedicated 52 per cent of their lending to the UK regions.

When comparing commercial real estate mortgage with other types of investments, a 10-year analysis of loan default rates (2007 – 2017) in commercial property lending reveals that the 10-year average default rate (based on value of loans) was 12 per cent across all lenders. This compares to a 10-year BB rated bond. Results differ significantly by type of lender and type of lending. The highest default rate as percentage of total loan book was reported by investment banks with 29 per cent followed by smaller UK banks with no substantial branch network and a default rate of 19 per cent.

Higher amount of defaults during financial crises

Further findings show that development loans experienced a higher amount of defaults during the last two crisis 1991/92 and 2008/09. The average percentage of value of loan books in default was 16 per cent over a 10 year average for lenders with a high amount of development financing exposure versus 10 per cent for lenders concentrating on investment finance only. This means a difference in credit quality of BB+ to BB-. Equally higher amounts of defaults were experienced in loan portfolios with higher regional exposure and alternative asset classes such as hotel and leisure property financing.

Loan default rates peaked in 2010/2011

Overall loan default rates peaked in 2010/2011, three to four years after they had been originated. Loans originated in 2006/2007 had the highest average LTV’s reported coupled with lowest financing margins.

Currently weighted average default rate stands at 3.1 per cent, which represents the credit quality of a 5-year bond rated BBB-. The average yield earned across different types of collateral is 240 – 250bps+libor. The average LTV in 2018 remains on average 58 per cent, this is based on market valuation approaches, which in rising markets tend to outpace real growth and are slow to react to market changes. While asset values are growing, so does the overall debt amount. For example, a property valued at £100m in 2007 was worth £138m at the end of 2017 according to the MSCI capital growth index. While the total debt amount increased from £60m to £83m, this means without any capital growth or capital decline back to 2007 levels, this would represent a LTV of 83 per cent instead of 60 per cent. Especially smaller lending organisations with balance sheets up to £1bn, financing loans of £5 – 50m undertake a higher amount of high LTV financing.

Ion Fletcher, Director of Finance Policy, British Property Federation comments:

"The UK's commercial property lending market seems to be in fairly good shape, despite ongoing political uncertainty. However, this report also highlights the relatively higher levels of defaults on development loans versus investment loans. Development is inherently riskier, but it is fundamental to the success of our towns and cities - and further policy support from the Government, such as better resourced planning teams in local authorities, could help de-risk financing for much-needed regeneration and housing delivery.”

Neil Odom-Haslett, President, Association of Property Lenders added:

“The first half of the year has been one of caution amongst lenders and borrowers alike, although there has been some heightened competition amongst lenders for lower leveraged, prime offices (particularly in London) which has put pressure on margins. Overall the headwinds have got a little bit stronger and its testament to the current lending culture that as a real estate lending community we are managing them (the headwinds) appropriately. We have also seen the reintroduction of market flex clauses coming into the larger transactions, which again reflects where we are in the current cycle.”


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