In March, no one could have predicted exactly how or how long the property market would be affected as a result of Covid-19. When estate agents re-opened in May, a tsunami of residential transactions followed which lasted for months. Pent up demand coupled with a revolt of city folk leaving for housing with green open space meant that July and August saw sales volumes not seen in decades.
The commercial real estate market however tells a different story. With most people working from home, great swathes of commercial real estate have been left empty and questions are being asked about its future. The hospitality sector has been the hardest hit whilst retail has been struggling for years. In contrast, the pandemic has rapidly shifted consumer habits in favour of online shopping which has supported the industrial property market with a greater need for primary distribution hubs and a web of secondary interconnecting logistics centres.
The biggest difference between these markets is that the residential market is underpinned by the value of the home whereas commercial assets are underpinned by the value of the lease and the strength of the company behind it. The result is that most of the commercial property market has become a less attractive investment opportunity whilst companies struggle to survive, therefore providing less certainty, which in turn drives down the return and increases the risk. Simply put, investment yields have been pushed out, property values have fallen and existing banking covenants have been put under pressure if not into default, putting more responsibility onto the landlord to service the debt and make whole the banking agreements.
What is interesting is how the debt markets are responding, not only in the way that risk is perceived but who is participating within these individual markets and their appetite. In line with the strong residential shift, many debt lenders are back to full lending capacity with both leverage and price supporting residential led development, particularly those focussing on housing instead of flatted schemes. In comparison, the commercial sector is struggling with many lenders not choosing to lend or lending with greatly reduced leverage to reflect the risk in the businesses behind the lease and therefore the underlying value.
As a result of these mechanics, we have seen a shift in existing commercial lenders coming into the residential debt space in order to balance their market exposure and loan books to find a return on their capital in the near term. Overall, the residential market is realising the benefit of the current conditions with more liquidity being attracted from both the UK and Europe. This in turn is developing the products available on the market as new liquidity is trying to find its competitive edge.
First published in Buisness Moneyfacts Magazine
For any further information, please contact:
Julian King
Asset Finance Adviser
E: julian@arcandco.com
T: +44 (0) 20 3205 2190