How is UK Real Estate Finance developing in 2021?

2020 was an anomalous year. As we begin month three of 2021, how does the real estate finance market look? Inevitably debt tracks equity sentiment.

COVID-19 / Government support / Taxes

We expect to see a further extension of the government's COVID-19 measures to protect commercial tenants, despite their announcement that the extension until March 2021 was final. 2021 will see deal flow recovery being inextricably linked to the speed and success of the vaccination programme.

The biggest victims of COVID-19 have been the retail and hospitality sectors, which will need to be front and centre of any portfolio management strategy in the coming months and years.

Regardless of the vaccination programme and portfolio management strategies, we expect financing deal flow to remain steady in 2021 due to refinancing requirements.

The switching off or reduction of furlough support, and the pace of doing so, will have a huge knock-on effect, especially for those sectors it has propped up more than others, such as retail and hospitality. Also, how the government deals with the huge debt injection (CBILS, CLBILS, BBLS, CCFF) it has promoted into the wider economy to tide business over during the pandemic, will also have a major influence on the general recovery this year. All of that will impact on real estate requirements.

There has been much debate and differing views concerning the shape of the economic "bounce back", although predictions have become more positive with the vaccination rollout as we head into 2021 proper.

The industry needs to plan for a higher tax environment going forward, given the huge cost to the public purse of the pandemic support to date. Where will government policy go on corporation tax, tax on capital gains, business rates and SDLT? The forthcoming budget will reveal more. 

Brexit

The adjustment in exchange rates caused by the whole Brexit process, from referendum to now, has made UK real estate assets cheaper and more attractive for international investors. The negative press surrounding Brexit is not reaching as far internationally as media echo chambers would have us believe, meaning we expect more overseas capital to be inbound and applied towards real estate assets in 2021. The "chase for yield" means UK real estate continues to look attractive when compared to other investment asset classes.

Border issues as the UK/EU trade relationship settles are we hope just a temporary issue and a side show to the genuine and permanent shift in the way retail works, post pandemic, and how that has driven the nature of demand in the retail space, downward pressure on traditional retail, whilst logistics remains a boom sub-sector.

However, the UK will remain an attractive destination for international capital for all the good reasons that endure. Many of those investors tell us that they do not regard Brexit as a major issue.

The Office

During the first lockdown there was much speculation as to whether the office would become a thing of the past as people championed home-working. However, as lockdown and working from home edges towards its first anniversary in the UK, we think the death of the office is overblown. The office will, however, need to change. The return to whatever "normal" becomes is slower than we may have anticipated.

The longer that working from home continues, the more evident it becomes that office workers are craving a more balanced mixture of home and office life. This will mean a move away from the traditional office set-up to more flexible, creative office space. Creating a balance between a new company culture and a strong virtual presence in a growing technological world will create more opportunities in the market for the redevelopment of the office.

For those offices that may not be fit for redevelopment as such, investors may be able to look towards repurposing these assets in 2021 and beyond. We expect there to be a huge uptake in the number of PRS (private rented sector) transactions for 2021 which will allow investors to readjust their office portfolios to align with the fluctuating market.

UK Staycations

COVID-19 and Brexit has made international travel more expensive and administrative for holidaymakers as travellers find themselves having to pay for fit-to-fly tests and face standing in long customs queues.

We predict that UK coastal boutique hotels, park homes and 'glamping' venues will buck the slower hospitality trend that city hotels may see in 2021, as tourists shun expensive international travel in favour of a coastal or countryside staycations.

Later in 2021 and into 2022, international leisure travel will see a resurgence.

Negative interest rates

With COVID-19 bringing the lowest interest rates that the UK has ever seen, the real estate sector must consider whether the Bank of England will follow Japan and the European Central Bank and take the base rate into the negative as a way of encouraging investors to keep the economy moving and invest in commercial real estate in the immediate future.

If interest rates were to go into the red, we predict that the UK might see an increase in consumer spending in the retail and hospitality sectors as individuals will have even more incentive to treat themselves on luxuries that COVID-19 has starved them of (holidays, meals out, new clothing) rather than keeping their cash in a zero returns savings account.

Everyone is watching how influential a consumer "bounce back" of consumption will drive economic recovery and the impact that may have on inflation and interest rates.

The Lending Community

2021 will see the diversity of the lending market between banks, insurers and funds continue. This reinforces and continues recent trends.

Banks will remain competitive with their rates for more traditional real estate assets, but alternative lenders will be able to plug the gap for higher risk loans in respect of those real estate assets that have faced more COVID-19 challenges and that banks may not wish fund, particularly with cost of capital restrictions. Many lenders have also stepped up to the plate to operate the government backed COVID related financial support products. This is bound to consume both real and intellectual capital through 2021 and has an impact on the broader market.

We detect some lending caution so far in Q1, reflective of several factors, including the hangover of a busy year end. A degree of "wait and see" is in evidence as everyone assesses prospects for the new year. Some caution in credit functions is understandable. We also have some market participants continuing to be distracted by managing existing portfolios, some of which is showing distress and consuming management time and other resources. Some of the market has also been supporting the government backed lending schemes, which may of themselves cause wider distortion of the market over the medium term.

Private Wealth

The significance of "private wealth" for the real estate finance market has continued to increase since GFC. More of the equity deployed is positioned as such and lenders have responded with expanded "private wealth banking" offerings of debt into commercial (in addition to more traditional residential) real estate, following the desire of their high-net-worth client community to be invested in this asset class.  We think the pandemic will be another driver for greater investment (and therefore leverage) in real estate. Some private wealth capital will be very well placed to take advantage of opportunities thrown up by the financial challenges of the pandemic.

Ones to watch for 2021 and beyond

• ESG - green loans are and will continue to be a hot topic in 2021. Lenders and debt funds are under increasing pressure to reach ESG targets, and for the real estate market this means competing to ensure property investment is as green as possible. ESG legislation and regulations will grow in impact in the coming months and years as a way of preventing 'greenwashing' and similar ESG box-ticking exercises.  2021 will see ESG come of age in the debt markets.

• Logistics - with the move from shops to online retail, logistics will continue to be a sought-after investment choice. Where the equity goes, debt will follow.

• Data centres - data volumes are increasing every second and the number of UK data centres needs to keep up with this demand. The pandemic has and will drive even more growth. We expect investors to pump more funds into this lucrative real estate sector over the next year and decade.

• PropTech - the demand for real estate space that meets the hi-tech needs of owners and occupiers has increased as a result of COVID-19 and in line with ESG requirements discussed above.  We predict continued growth in both the delivery of new "smart" buildings and the retrofitting of buildings with new technology. As a consequence, lenders may have to consider making additions to the LMA standard form of loan documentation to reflect the growing levels of tech in buildings. IP rights and the 'digital estate' will be considered more than just ancillary items in respect of lenders' security packages.

• BTR - the 2020 Q4 figures from BPF's latest BTR survey show there are now 179,835 build-to-rent homes in the UK, including both London and the regions, of which 53,750 are complete, 37,050 under construction and 89,035 in planning. We predict this pipeline will continue to grow as institutional investors seek bond-like returns from investments underpinned by residential valuations, and occupiers continue to demand professional management, provision of good quality services and, increasingly important, a sense of community.

• IPSX - the world's first regulated exchange for real estate assets is now open for admissions. IPSX offers asset owners a new route to raise capital and allows investors to invest and trade in listed companies that own individual assets. With two exchanges (Prime for retail investors and Wholesale for institutional) and the pressures again put on open-ended funds, we expect IPSX to gain traction.

• Life sciences - life sciences real estate transactions have seen significant growth over the past few years with COVID-19 and the demand for vaccine development only accelerating investor demand. Debt providers across the board are seeing an increasing number of financing opportunities for these assets. However, it must be noted that this asset class is a specialist one and lenders will require a careful understanding of the sector to be able finance it successfully.

• Retail - the repurposing and reinvention of bricks and mortar retail will be a fascinating story to watch over the next decade.