UK Commercial Property Defaults Rise as Rate Hikes Hit Borrowers

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The number of soured commercial real estate loans has begun to rise in the UK as the rapid increase in interest rates feeds through to property valuations.

The overall default rate on UK commercial real estate debt reached 4% in the six months through June, according to a survey conducted by Bayes Business School. That’s up from 3% at the end of last year, though well below levels seen in the global financial crisis as many loans are still hedged, senior research fellow Nicole Lux wrote in an accompanying report. The amount of outstanding debt was steady at £178 billion ($217 billion).

The Bank of England has raised rates from almost zero to 5.25% over the past two years, pushing up investors’ required returns and denting real estate valuations that had reached record levels in the cheap money era. That’s pushing some owners to breach so-called loan-to-value rules on their debts. Higher rates are also stretching borrowers’ ability to cover interest payments that have risen much faster than rents.

“It’s not surprising to read that there is only a small increase in stress in the lending markets as interest rate hedging is still in place on many loans and taken out when rates were considerably less than today’s rate,” said Neil Odom-Haslett, president of the Association of Property Lenders. “With a significant portion of the £178 billion of loans outstanding needing to be refinanced in the next three years, I would expect there to be increase in stress going forward.”

While banks and insurance companies reported modest signs of stress, alternative lenders that mostly include debt funds reported a default rate of 11.2%, Bayes data show. That reflects the shift of riskier lending out of banks and into credit funds since the financial crisis.

Photograph: A pedestrian walks along the banks of the River Thames in view of skyscrapers in the City of London, U.K., on Monday, Sept. 28, 2020. Photo credit: Jason Alden/Bloomberg