Lending margins rising says CBRE ‘UK Debt Prospects’

Lending margins to UK commercial real estate “inched upwards” in Q3 2015 says CBRE in its latest UK debt prospects benchmarking report, PDI sister title Real Estate Capital reported.

CBRE is the latest organisation to report that, since the summer, UK lending margins have reversed their downward track and started to stabilise or even move up again. Speakers and delegates at last week’s Real Estate Capital Europe Forum 2015 reported the same trend.

Dominic Smith, CBRE’s head of real estate debt analytics, said senior margins had edged up by 5 basis points on average, while Forum delegates put the rise on particular deals they had recently closed at as much as 20bps-40bps.

“After working hard to fulfil annual lending targets in the first half of the year, a number of lenders have chosen to be more circumspect since the Summer, with the result that senior margins edged upwards by c5bps over the third quarter,” Smith said.

At the Forum, MetLife’s head of European debt, Paul Wilson, said senior CRE debt lenders also had to respond to changes in the wider financial markets and in the capital markets where CMBS pricing has risen.

CMBS spreads have increased by significantly more than senior CRE debt in Q3, potentially boosting its relative attractiveness to investors.

“CMBS pricing has been much more responsive to the global market jitters that have afflicted investors over the past three months”, Smith said. “As a result, BBB CMBS now offers an 80bps premium to senior CRE debt, compared to a 20bps discount six months ago”.

Despite the small rise in senior CRE debt margins, CBRE’s forecast for senior CRE returns in Q3 2015 is nevertheless lower than it was in Q2, because the five-year swap benchmark declined during the period, by 29bps. The forecast total risk-adjusted return is 3.4% compared to 3.7% in Q2.

But Smith said this meant senior property debt “undoubtedly still offers attractive returns to all forms of lenders, which is why the pool of capital chasing the sector is as deep and varied as at any time in the past.

“Our forecast is that average risk adjusted returns to senior CRE lending made in Q3 2015 will be 3.4% pa, a little lower than in Q2 thanks to a decline in the five year swap rate, but still a premium of more than 2% over five year gilts and of more than 1% over the iTraxx indicator of Corporate Debt.”

CBRE says that this level of premium relative to other forms of fixed income will continue to appeal to non-bank lenders, while the banks should still be attracted by healthy returns on Risk Weighted Assets – as of Q3, risk-adjusted Return on RWA is forecast to be in the range of 1.6-3.1%, depending on Slotting treatment.

“Non-bank lenders are still getting a very nice premium over gilts, bank lenders are still meeting or exceeding typical benchmark RoRWA targets” Smith concluded.

The Q3 UK Debt Prospects report will be out next week.