While the UK banking sector has taken a serious hit over the last 12 months many had believed the multibillion pound taxpayer led bailout would be more than enough to see the sector through the bad times. However there are now serious concerns that we may well see credit crunch part two in the first quarter of 2009 and the consequences could be even more serious for the UK property market.
A report released today from investment bank Close Brothers is suggesting that UK banks face up to £70 billion of losses from the commercial property sector alone. This figure will not only shock many observers but could prompt the emergence of a credit crunch with a number of the U.K.’s leading banks forced to go cap in hand back to the government for extra finance for survival. Not only will we see traditional mortgage and commercial mortgage liquidity fall to new lows but it could also force many banks to call in more debts than they would normally have done to try and consolidate their financial positions. The impact upon the commercial and non-commercial property markets could be severe to say the least.
So what has brought about this projected slump in the banking sector?
The main reason for the forecast slump is the fact that many UK banks have substantial exposure to the commercial property market where prices have already fallen by as much as 30% this year alone. A number of property experts are forecasting further falls of between 20% and 30% in 2009 which could bring the overall fall in commercial property values in the UK to over 50%.
The review by Close Brothers has identified that the U.K.’s leading banks have between them exposure of over £250 billion to the commercial property loans market. When you consider that this is more than twice the amount they had before the recession in the 1990s and the fact that £83 billion of the £250 billion total was taken out at the top of the commercial property market this is where the trouble begins to materialise. Even though we have seen a number of overseas investors looking at the UK and the commercial property market in particular this in no way makes up for the drastic fall in domestic demand and the lack of buyers on the sidelines.
The problem now is that more and more commercial property owners are looking to dispose of their properties and bank as much money as possible after paying off their debts. However, with fewer and fewer buyers on the sidelines many commercial properties and commercial property portfolios are being sold at distressed prices, something which is also impacted by the distinct lack of debt finance available in the commercial property and the non-commercial property markets. Lower prices are putting pressure on all areas of the market and quickfire sales are now going through at seriously distressed pricing levels.
There is a feeling that the UK banking sector is now losing patience with the UK commercial property market and much as we saw in credit crunch part one as soon as one of the main banks crystallises their substantial losses in the commercial property market the rest are sure to follow. This will then place more pressure on both the government and the taxpayer to bailout a financial sector which is starting to fall to its knees yet again.
Debt ratings and the credit crunch
Just last week we saw Moody’s warning of a possible downgrade to the credit ratings of Royal Bank of Scotland even though the company is now 56% owned by the taxpayer. There are serious concerns about the company’s massive exposure to the commercial property market in the UK, Ireland and the US. This may well explain why the company is currently looking to sell off its “crown jewel” insurance operation for around £7 billion.
Are things really as bad as Close Brothers are suggesting?
While it could be argued that the position of Close Brothers is one of the more pessimistic on the market there is great concern that the figures which they have unveiled and their forecasts for the future actually make sense. Even if they are over pessimistic with their figures the arguments seem to stack up and the banks current exposure to the commercial property sector is a great concern. Quite what the UK banks or the UK government can do collectively to avoid a potential decimation of the commercial property market remains to be seen as the potential knock-on effects to the overall UK economy are substantial.
This is the first real investigation into the UK commercial property market since the UK economy started to take a serious downward turn in the second half of 2009. One major concern is that nobody really knows how far the UK commercial property and non-commercial property markets can fall and at what level overseas investors may well step into the breach. If you put yourself into the position of an overseas investor or a domestic investor with cash available to invest would you honestly rush into a market which seems to be falling at a substantial rate with very little confidence and support?
While this report by Close Brothers would appear to be a little more pessimistic than those currently in the market there is no doubt that the logic and the figures behind the report do stack up. The loss of £70 billion would cast serious doubt on the future of many of the U.K.’s leading banks and lead to a short to medium term reduction in mortgage finance liquidity for both commercial and non-commercial property – in essence a credit crunch.
There is a serious risk that credit crunch part two could materialise in the first half of 2009 with some even predicting a serious hit in the first three months of the year. The knock-on effect to the sector, the government and the UK taxpayer would be enormous let alone the potential long-term implications for the UK property market as a whole and the UK economy. It will be interesting to monitor the next set of banking sector figures which should give us some indication of how they have fared since the initial bailout and the prospects for the future.