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Commercial Lending January blog – a review of the residential property development market 

29th January 2024

Commercial Lending January blog – a review of the residential property development market 

In our first commercial lending blog of 2024 we caught up with head of business development, Gareth Davies, and senior development finance manager, Greg Pescott, who share their thoughts on the state of the property development market and how Hodge is supporting developer clients and brokers with their property development goals.   

Do you expect the recent weakness in house prices and the rises in interest rates to hamper residential property development? 

Greg Pescott – senior development finance manager 

There’s no single issue causing the challenges in the housing market and sadly no single cure. However, it remains clear there’s a significant shortfall between the supply and demand of new homes which is limiting price falls.   
Land Registry, Halifax and Nationwide are all now reporting average house prices are falling, albeit at a far lesser rate than originally expected, a welcome drop which demonstrates the robust nature of the UK housing market. It may be that the full impact of raising interest rates hasn’t been fully felt yet and we may see further pressures on affordably from mortgage lenders  this year.    

For those developer clients on 2, 3 and 5 year fixed rate mortgages from 2020, the cost of remortgaging onto an average rate today could be so dramatic that it becomes unaffordable, and we’ll see this impact over the coming 18 months. That said, material decreases in mortgage rates over the past six months are likely to soften the blow to some degree.  

It’s also worth mentioning the last purchase under the Help to Buy scheme in England had to be completed by 31 March 2023. At present no replacement has been introduced. Without the support of this scheme or something similar, affordability metrics may be challenging. Some purchasers are likely to require larger deposits, and this will likely affect first time buyers, whose only option may be to call on ‘the bank of mum and dad’ to help.  Savills reported last year they expect 63% of all mortgaged first-time buyers to receive assistance from their family to purchase in 2023, with a total of circa £9 billion being contributed by family members (up by £5 billion since2019) to help first time buyers. 
Developers are unlikely to start a development where they’re uncertain about sales at the end of the project. If they need to cover increasing development costs and increasing costs of borrowing, then a drop in house price or uncertainty over sales will almost certainly  result in a material reduction in profit. Residential development could be hampered by multiple factors including uncertainty and caution in the property market. This is being driven by supply chain issues in the wider market, fluctuating material costs, a limited pool of skilled labour, plus the risk versus reward of equity injection and  squeeze on profit margins.    

That said, since 2009 the rise to challenger and second tier lenders as well as multiple peer to peer platforms has provided developer and housebuilders with a multitude of development funding opportunities to help with projects and Hodge is here to help in any way that we can. 

Gareth Davies – head of business development for commercial lending 

One of the main challenges for residential property developers is instability. We’ve seen considerable increases in development costs over the past 18 months and combined with a 5000% increase in base rate in same period, developers have become cautious about starting new development projects.   

On a brighter note, the material reduction in inflation during 2023 and move to a more stable base rate (currently held at 5.25% since August 2023) will undoubtedly create  optimism amongdevelopers, although I suspect this will need to continue well in to 2024 to create a material change in development starts. 

With fewer development starts over the past 12 months and less property stock coming to market as a result, the current supply of residential properties is limited.  Given the ongoing demand for residential properties across the UK, this shortage of supply has helped to ensure average house prices (while dropping slightly) have remained relatively strong.  First time buyers with increasing help from the bank of mum and dad, combined with cash buyers now comprise c75% of all residential property purchases in the UK and are therefore vital to the ongoing demand for residential property. 

What type of residential developments does Hodge fund? 

We fund residential development projects across the UK (England, Scotland and Wales) including mixed-use projects (assets that are largely residential but retain a commercial element), purpose-built student accommodation (PBSA), and commercial projects that are either pre let or presold. 

We work with experienced property developers, offering  a range of products to help assist throughout the property development life cycle. We also support land acquisition and property development finance and can flip completed development schemes into a longer-term investment facility.     

Our suite of development finance products caters for all asset classes to assist borrowers at all stages of their property development project. Hodge also offers a refurbishment finance option to help developers with existing properties that might require light refurbishment or conversion where the rigour of a full development finance facility isn’t necessary. 

How much capital does Hodge typically require from a developer client? 

Hodge requires developer clients to inject a minimum of 10% cash into a property development project. We fund up to 65% loan to gross development value (LTGDV) or 80% loan to cost (LTC) - whichever is the lower - and accept equity in the form of cash and planning gain.    

Over and above our traditional development finance product we can also provide stretch senior development finance This isn’t something we provide on every transaction as standard, but where there is a shortfall in equity, we can look to increase the debt facility to a maximum of 75% LTGDV and 88% LTC, providing the borrower with additional financial support when required. 

To find out more about our Development Finance options (including Stretch Senior and Bridging Finance) and longer term Investment Finance products please get in touch with us – [email protected] or [email protected]

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