In this Under the Spotlight, Ray considers how the COVID-19 crisis is affecting the real estate market and offers some general future scenarios.
You have been heavily involved in the UK lending and real estate markets for many years, during which you have experienced several credit crisis and very tough UK real estate markets. It is obviously early days yet, but how do you think this one will compare? Or is it so unique that it is really difficult to predict?
This crisis is different. In 2007 it was the collapse of the banking sector and credit dried up overnight. Most banks have now recovered but regulation will prevent them from ever being over-exposed or enter high-risk lending again. They are therefore ready to deal with the current crisis.
In addition, from 2009 onward we saw the emergence of the alternative debt market which at its peak was reported to be lending up to £5bn into the UK market. Many of those lenders are still there and have appetite to lend.
In summary, credit will be available, however it will be credit policy which will change and that will be led by which sectors of the market will be most affected by the current crisis. Logistics, medical and science are likely to emerge from this crisis as solid asset classes achieving higher loan-to-values, while the retail and hospitality sectors will take time to recover and may need a new model to survive.
How confident do you think bank lenders will be in surveyors’ valuations amidst the massive uncertainties surrounding the economic damage from COVID-19? If surveyors cannot produce reliable valuations which satisfy the banks, could this significantly stall the recovery of the UK real estate market?
Bank-instructed valuation has changed since the crash of 2007. They rarely ever have any ‘hope value’ and for the purposes of lending will have a worst-case scenario built in. If we take the example of High Speed 2, the new high speed railway from Manchester to London, bank-instructed valuations for residential properties close to the rail line were decimated due to the forecast noise disruption in areas previously noted for peace and quiet. This was all pre COVID-19.
Valuers have learned. They appreciate their relationships and the business they get from the banking sector, and to be on that reliable valuer list they need to be on the side of the bank, not the borrower.
For property investors fortunate to be sitting on liquidity at present, there would seem to be some very attractive buying opportunities ahead. What do you see as the main opportunities, for example for some of the wealthy Middle Eastern families that you work with?
There are four main categories and four different appetites in my view:
For the Middle East this has always been driven by location, location, location. London will always be attractive and safety criteria will apply to each property. To be within easy reach of Mayfair is very important for my clients. Outside of London, I find that residential investment may be triggered by education where a family member takes up a place in a UK University, the same criteria applies.
We are seeing some early stage activity from the Middle East in the logistics and medical sectors. A warehouse let to an investment grade distributor is becoming more attractive than an office let to an investment grade tenant. In the medical sector I would expect a lot more appetite from the Middle East for private hospitals, medical centres and care homes, all of which need to be compatible with post COVID-19 regulation.
We have enquiries from clients in the Middle East looking for sites in the UK which could be suitable for care homes and student accommodation close to universities offering high standard medical degree qualifications which will attract foreign students.
We have some families looking to buy farmland in the UK. Farmland has held its value, there is a capped supply in the UK and food supply, quality and transparency of where food has come from has become very important during the COVID-19 crisis.
Over the past three or four years, the strength of the USD against the GBP has meant that despite UK real estate prices falling in sterling terms the market has remained attractive for Dollar-based investors, especially from the Middle East. Now that the oil-producing countries in the Middle East are seeing extreme oil price volatility, do you see them pulling back from UK real estate investment/development or do you see the oil factor further strengthening their commitment to diversify their wealth away from the region and into foreign real estate and businesses?
The UK has always been hugely attractive to the Middle East, as it is an easy place to do good business. The enjoyment factor is major whether it be sport, art or food. Currency is not really a big issue, there are many other considerations which come into the balance before currency and that could be stamp duty for overseas buyers, property tax and access to borrowing facilities. If the right property, in the right location becomes available they will do their best to follow through and buy.
With the oil price being so low and little prospect for oil prices to increase there is an increasing drive for property investors and developers to diversify outside of the region. This of course will not be just the UK but also other strong and emerging economies.
Long-term credit interest rates are at record lows and there appears to be little sign of rates increasing for several years as the world economy rebuilds. Is this the time for investors to take advantage of cheap debt to take advantage of discounted prices, or are the risks of major corporate tenants going bust simply too high? Do you see the demand for new developments stalling for the time being in the UK?
I think investors will learn the lessons from the last recessions. There are unlikely to be large-scale discounts and the banks will not foreclose in the next 12 months. Those businesses which will close before then will already have been just about surviving. Cheap debt gives most businesses a chance to survive.
Astute investors will not try and read the bottom of the market but look to invest on the upward curve and in businesses and property which are in the right space.
I do believe that there remains an acute shortage of housing in the UK and expect the UK Government to apply some form of stimulus to get new developments off the ground. With large-scale unemployment we would expect a drive towards affordable and rental properties.
What other scenarios do you think will develop as a result of COVID-19?
If a vaccine is found and in adequate supply, I believe many of us will have short memories and will revert back to the norm. That will mainly apply in my view to those under 50 and outside of the ‘more vulnerable’ category. Restaurants and bars will be full, sporting events sold out, concerts in full swing etc. Students cannot wait to get back to University and the upwardly-mobile keen to live life again.
There will be changes:
- The commute to work and the office environment will have to change.
- There will be several categories of the population whose behaviours will change forever. Those who have unfortunately lost a family member and experienced the pain direct, the elderly and the vulnerable. There is a huge opportunity for business to adapt and cater for this sector.
- Care homes have found the going tough and were not prepared. We can expect new regulation and new fit-outs in many operations.
- The flight of the elderly to space, selling up in city centres and moving to a more suburban/rural environment is likely. Provision for home care will increase.
- There will be less business travel and the use of video technology will escalate, so the impact on airlines and hospitality will likely be significant. That said, direct face-to-face interactions is still a requirement for most transactions to close.
- Working from home is no longer a problem and it will be encouraged for professions which can ‘hot desk’.
We all have had time to reflect and are likely to make personal changes. We are not immortal, and this can happen again.
There are many more, and I believe in the main it will be positive change. COVID-19 has brought the world together and that is a togetherness which never existed before.
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