COMMENT Estate agents and removal firms have returned to work under the government’s plans to reinvigorate the housing market. This offers a glimmer of hope, but how will the market look when the Covid crisis abates and the economy reboots?
We analysed the UK residential market during and after the global financial crisis, the most recent systemic risk to the UK economy. This research, blended with our own track record, shows strong potential in some sub-sectors, especially build-to-rent.
As a result of the GFC, new-build sales prices declined between 20% and 27%, across the major UK cities. However, the recovery of individual city markets was very different, with the faster recoveries occurring in London, Edinburgh and Bristol, taking 4.6 to 6.6 years to reach previous peaks. At the other end of the spectrum, Liverpool and Glasgow took 9.9 and 10.4 years to regain lost ground. We anticipate that recovery rates will again vary considerably across the UK, with the quicker recovering markets attracting capital earlier in the cycle.
Shaken confidence
As with any downward cycle, land prices decreased most significantly, with London and UK urban land falling by 46% and 57% respectively, according to Savills. At Hub, during the recovery period following the GFC, we were initially able to economically acquire sites that already had planning permission, removing significant risk and reducing the development period. However, as land prices rose, we had to take on greater planning risk to deliver viable opportunities.
As a result of the GFC, UK construction costs also fell significantly, by 16% to 23%, with Edinburgh and Glasgow falling the most, according to the BCIS and Circle. Construction cost reductions post-GFC were not instantaneous and took 1.5 to 1.75 years to reach their lowest point. We also found that once the low point had been reached in London, there was a contract discount period of a further 15 months when pricing remained 15% below the previous peak. However, once the recovery took hold, contracting prices in the capital rose quickly at 5.4% a year.
Post-Covid, we anticipate that there will be less construction activity, as market confidence will be shaken and some funders will retrench to deal with legacy issues. Therefore, contractors are likely to bid more aggressively to win work, which will be key for mid-market developers such as Hub, as construction costs typically make up 75% to 80% of our overall development costs. Lower land prices and construction costs will offer developers opportunities, but end values are also likely to be lower whilst markets recover.
Urban renaissance
However, one set of data did not decline significantly during the GFC: residential rents. During and after the GFC, rental declines were extremely modest, ranging from flat to 1.8%, according to the Office for National Statistics. Generally during financial crises, people have less confidence and purchasing power, resulting in steady or increased demand for rented property. This durability of rents should make BTR all the more attractive to institutional investors, seeking long term, steady returns after the Covid storm.
Encouragingly, for all the talk about BTR in the real estate industry, it is still relatively early days for the sector, with considerable potential for growth. Against about 29m dwellings in the UK, there are just 152,000 BTR homes across the UK, including those in the planning pipeline.
The decline of traditional town centre high streets and shopping centres was very evident prior to Covid, but this crisis has accelerated and deepened the problems. However, the regeneration of depressed or defunct retail centres can be driven by BTR development, bringing people into urban centres, creating vibrancy and reversing potential “hollowing out” of the city structure. The social benefits of this type of regeneration will not be lost on institutional investors.
Whilst historic rental growth projections may need to soften, the future is bright for BTR. We are entering the second phase of BTR development in the UK and it will become more consumer-focused and sophisticated. Not only will BTR become a major investment class, it can be a force for good, enabling much needed renaissance of our urban environments.
Robert Sloss is chief executive of Hub Group
