The inevitable and long-overdue rise in interest rates in the UK should not worry lenders and investors because the lending market is stable and regulation has worked, experts agreed at Savills’ annual Financing Property summit, held in London on Tuesday, which this year celebrates its 30th edition.
The expected interest rate in May did not materialise because of weak economic data, but there is no doubt on the direction of travel.
‘The Bank of England has procrastinated, which has caused the cost of money to soften in recent weeks, but it is a question of when, not if, interest rates will rise,’ said Nick Hume, director of the valuations team at Savills. ‘They will rise relatively quickly, yet remain at a low level by historical standards.’
The property lending market is robust enough to cope with the rising cost of money, said Hume. Lenders’ stress tests have anticipated the rise in the cost of money to a large extent, but there is likely to be more caution on their part due to the deterioration in interest cover ratios (ICRs) and debt yields. ‘The lending market could become more discerning in terms of who they lend to,’ he said.
A notable development in the last few years has been the extent to which the lending market has become diversified, which spreads the risk and makes contagion less likely.
In 2012 91% of the lending was done by banks, while now that percentage has dropped to 75%. Non-bank or alternative lenders have filled the void and grown their market share to 25%, a percentage which is likely to rise further.
According to Savills, 73% of all outstanding debt is due for repayment in the next five years, with loan maturities set to peak in 2020 due to the large volume of loans drawn in 2015. The pressure on ICRs and debt yields from a correction in values in some markets, notably the most vulnerable parts of the retail sector, could lead to lenders offering lower leverage to borrowers when they refinance.
This could be the perfect cue for alternative lenders to step in.
‘The next three to four years could offer tremendous opportunities for alternative lenders and will further hasten the move of property debt from traditional banks to the alternative sector, where Savills has identified approximately 100 lenders,’ said Ian Malden, head of Valuation. ‘Alternative lenders are prepared to go higher up the risk curve to generate better returns and this is particularly relevant to refinancing, as a gentle decline in values will create pockets of stress, as is already visible in certain areas of the retail sector.’
RISING INTEREST RATES
Even when looking in detail at the various sectors it appears that the impact of rising interest rates will be muted. In the commercial sector, office rents will see modest growth of up to 2%, while logistics will continue to be the star performer with 3% increases in rents.
‘Logistics is the least exposed sector to interest rate rises,’ said Mat Oakley, head of commercial research, Savills. ‘In the retail sector, 48% of locations will experience rental falls, with the worst affected likely to be town centre high street shops.’
In the residential sector, with 57% of mortgage holders on fixed rates, the majority of householders are insulated against an interest rate rise. Government’s push to increase housing delivery is likely to bring ‘more demand for debt finance from small and medium size housebuilders and housing associations,’ said Lucian Cook, head of UK residential research at Savills.