THE ISSUES AT THE HEART OF THE HOUSING CRISIS,
Financing residential schemes has changed dramatically with nonbank lenders and cash buyers transforming the market, writes
IF anyone thought the release of the latest CSO housing figures this week would provide some comfort about Ireland’s escalating residential property crisis, they were wrong. The census figures revealed a sharp slowdown in housing stock growth. Total housing stock grew by just 8,800 (0.4pc) between 2011 and 2016. In contrast, growth of 225,232 dwellings was recorded between 2006 and 2011.
To put these figures in context, even if construction activity accelerates to meet the Government’s target of 25,000 units a year, the market will still be massively undersupplied. A demand backlog over recent years means that it is sitting at about 40,000 units, experts estimate.
This massive gap between 8,800 and 40,000 units is what’s overheating the market. Irish house price inflation is back in double-digit territory at 10.7pc for the first time since mid-2015, according to the Residential Property Price Index.
But depending on who you talk to in the industry, and what statistics are cited, different outlooks emerge.
Department of Housing figures say about 15,000 new dwellings were constructed last year, for example. This figure has been rubbished by experts, who suggest the CSO figures are more accurate. As well as having no housing statistics that both industry and government can agree on, it was revealed last week that the Central Bank has no reliable data on the growing non-bank lending sector either. A confidential Central Bank report — seen by this newspaper — has warned that this lack of reliable data on the financing of developments is “obscuring” the regulator’s ability to get a handle on the changed lending landscape in the financing of the housing market.
In a risk-analysis report entitled ‘Scenario analysis: what is the impact of higher housing output on the banking sector?’, which was circulated to Central Bank chiefs at a meeting of its governing board on January 23, it warned that the landscape for bank lending to housing developers has changed dramatically as a consequence of the crash.
“Given the highly concentrated nature of development lending, historic loss experience and associated capital intensity, this level of exposure [to government house-building targets] may not be within the banks’ risk appetite,” it said.
“The proportion of developers with no element of bank funding is unknown and obscures the quantum of bank finance required to support increased housing output,” it said. The financing of residential schemes has changed dramatically, fuelling greater uncertainty about future funding models.
“The financing of new housing output is a key element in facilitating the banks to maintain and grow their mortgage portfolios. However, the current funding model for the financing of land and development for residential property is complex and fragmented,” said the report. “The landscape for development finance has changed significantly such that there are a number of non-bank lenders in the market. They range from developers listed on the stock exchange, to private equity funds, Nama and the State in various forms.”
Worryingly, the Central Bank’s report warns: “When Nama exits the market after 2020, a significant funding gap may develop.” The reason for the growth in non-bank lending is simple: traditional banks are much more risk averse since the property crash. During the boom years, banks typically provided funding to developers at a much earlier stage, sometimes before planning or zoning was granted. In this scenario banks were effectively taking an equity risk but only earning senior debt returns.
Now bank lending has returned to more “normal” leverage levels (50pc to 65pc of development costs) with less funding available for sites without planning or zoning, said one financier.
In effect, senior lenders are no longer willing to provide the missing equity piece of the funding puzzle.
Non-bank debt and mezzanine finance has stepped in to fill the funding gap. But the Construction Industry Federation said this radically changed lending landscape has dealt a hammer blow to housebuilding. Director-General Tom Parlon said last week that “a market failure in finance for homebuilders” has made the housing crisis worse.
“The current housing shortage is the result of a decade of underinvestment in the housebuilding sector compounded by an infrastructure deficit and a market failure in finance for homebuilders. Currently housebuilding, outside Dublin and Cork, cannot attract finance at viable rates so activity is and will continue to be permanently depressed. If housebuilding only occurs in urban areas over the next decade this will fundamentally unbalance the country further; Dublin will continue to congest and regional economies will be undermined. The price of inaction on this is a continuing housing and homelessness crisis, the decline of rural Ireland and a congested capital, choking under the weight of producing almost 50pc of Irish GDP.”
While the Central Bank is using economic modelling on the basis of new housing output increasing rapidly between now and 2024, the impact on Irish banks is not at all clear as not all new homes give rise to mortgage lending.
Social housing, self-builds and cash-buyers have transformed the market, adding more items to list of “unknowns”, said an industry expert.
“Developers are required to keep 10pc of a new housing development for social housing,” said the Central Bank risk-analysis. “Secondly, self-builds accounted for 50pc of total completions in 2015 and a conservative reduction in this proportion is forecast. Thirdly, the matter of cash buyers, which have accounted for an average of 60pc of transactions over the past few years is very relevant for the determination of the mortgage market size. It is assumed that the level of cash buyers in the market will normalise in the coming years and hence a reduction to 40pc cash transactions assumption has been applied.”
When asked to assess the risk these “unknowns” pose to the market, a wellplaced industry source wryly quoted the former US Defence Secretary Donald Rumsfeld who once said: “There are known knowns. These are things we know that we know. There are known unknowns. That is to say, there are things that we know we don’t know. But there are also unknown unknowns. There are things we don’t know we don’t know.”
The Central Bank’s risk-analysis has also examined the effect of how the second-hand home market will impact on the homeloan market.
“Further consideration has also been applied to the turnover rate of second-hand homes. The turnover of stock on existing houses is expected to increase from the current historically low levels, as the proportion of mortgages in negative equity continues to fall. Taking all of these factors into consideration, with the incorporation of the new housing transactions and increased turnover on second-hand homes, the turnover of stock is assumed to increase from current levels of approximately 2pc to approximately 4pc of the stock of houses by 2022 in the increased housing-output scenario. The result is a new mortgage market which increases to €11.6bn in 2019 from €7.8bn in 2016.”
Clearly, the danger with such crystal ball gazing is that if it all goes terribly wrong again, the country will be left with more than just shattered glass.