NHF East Region Brexit -Key considerations for financial stability Richard Murphy Director, Murja 17 August 2016
Introduction
Agenda Key impacts for RP finance and treasury management Impact of development programmes and delivery Risk registers and stress testing Governance considerations
Finance and treasury management
Immediate impact on the UK Immediately following the EU referendum result: UK stripped of final AAA credit rating, downgraded to AA Standard and Poors described the result of the vote as a seminal event that would lead to a less predictable stable and effective policy framework in the UK FTSE drops by 8.7% BOE forecast that the value of sterling would fall 10% David Cameron resigns as PM
Subsequent impact on the UK Now that the dust has settled: Theresa May appointed new leader of the Conservative party and PM BOE MPC cuts Bank Rate from 0.50% per annum to 0.25% per annum and announces further 70 billion of QE FTSE 100 up more than 10% sterling falls 10%
The Markets
The Markets
The Markets
Bank Finance Banks are still open for business no obvious retrenchment to date No immediate impact on pricing, although the announcement by the BOE of a new scheme to enable the Banks to lend money to the real economy should reduce pressure on margin increases Preferred model is to provide short-term (working capital/development) finance very limited appetite for commitments beyond 10 years
Bond finance Sector credit ratings downgraded Increase in credit spread for own name issues (Swan/Orbit/PfP) The debt, issued under the Affordable Homes Guarantees Programme (AHGP), through AHF and including EIB is now sub-2% per annum
EU Finance The European Investment Bank (EIB, an investment bank owned by European Union member states) has committed to invest 1bn in UK social housing providers It has said it will stand by commitments following the Brexit vote, but also warned the current level of funding would not be feasible if and when the UK leaves the EU. Merlin Housing Society raised 25m from the EIB at the start of August. First raised 15m of EIB loans at a record low rate of just 1.406% for the 20-year debt. Then tied up a second deal for a further 10m at an even cheaper 1.373%.
Mark to Market Reduction in long-term interest rate forecasts Standalone derivative portfolios hit a record low out of the money balance at the end of July 2016. RPs required to cover Mark-to-Market position On most ISDAs (International Swaps and Derivatives Association contracts) RPs can charge property as security to meet margin calls, rather than charge cash Most RPs had provision in place to cover this following credit crisis Those having to charge cash reduces business flexibility and increases the risk to financial viability
Future funding implications Are we reaching a natural floor for the minimum returns sought by investors for non-guaranteed issues? Issue last week by Places for People was priced at 225bps (or 2.25%) above the benchmark Gilt even though they raised 400 million Mark-to-Market position could still get worse if UK moves into a negative interest rate environment Lower base rate should have a positive impact on bank lending but will margins increase to reflect Brexit risk? Will there be a reduction in the availability of EU-backed funding?
Development programmes and delivery
Development programmes Opportunity to negotiate more flexibility on how to spend the Homes and Communities Agency s (HCA s) next round of development funding? Currently almost all earmarked for shared ownership. HCA future programmes/bidding under-subscribed Negotiate more flexibility around programme mix? Board need to be prepared and know what works Help to Buy had become embedded in markets and supported up to 50% of private sales in some areas in 2015
Development programmes Anecdotal evidence that contractors are seeking to take advantage of post-brexit uncertainty and increase costs It is important that your procurement team understand the dynamics of the supply chain and the local market in which you operate Consider alternative delivery models recent announcement by Home that they are badging as Graduated Ownership to enable fist time buyers to own a proportion of the properties In London, Dolphin has developed the first individual affordable rented programme every tenant pays a level of rent commensurate with their income. This builds on the research undertaken by the Joseph Rowntree Trust on affordability Announcement by L&Q that it has entered into a Joint Venture with Trafford HT in Manchester diversifying away from London and the South East
Risks and Stress testing
Brexit Bank of England and IMF have warned of recession, which could trigger a slump in house prices (with predictions ranging from 8% to 18% over two years) Could lead to a freeze on mortgage lending, negative equity, drop in incomes and unemployment Less investment into new homes, increased borrowing costs, increased costs of EU imports of building materials and shortage of skilled workers Housing minister has also warned that leaving the European Union will scupper the government s million homes target
Brexit Social tenants could be hit harder by Brexit as ministers are forced to save 44bn further cuts to the welfare budget seem likely. Implications for who the sector houses, on what terms and at what price Devolution - increase the pressure for further control of local budgets, including housing 78.4% of HA CEOs believe Brexit will have a directly negative impact on their organisations (Inside Housing) Regulator will work to ensure that the most vulnerable associations do not undermine overall investment confidence
Stress Testing Risks arising House prices falling across open market, shared ownership and right to buy sales Falls in housing sale volumes In the longer term the possibility of labour shortages, increases in the cost of materials, restricted access to European Union markets Possible contractor failures The effect of falls in Gilt rates, particularly for those with Mark-to-Market exposure. Further cuts to the UK s credit rating which could affect the rate at which associations can borrow Possible rises in inflation Rising pension deficits which are linked to Gilt rates
Other risks Temptation to borrow speculatively ensure that the cost of holding cash is considered Impairment issues - commercial subsidiaries Care and support - labour costs and availability House builder share prices fell but are now recovering But on the upside: Further innovation in the sector Further consolidation and efficiency Home lending to first-time buyers highest since credit crunch Around one in three homes for sale has had its price cut according to Zoopla
Key Governance Considerations
Regulator s position Regulator has prepared for the eventuality of Brexit Focus on ensuring that the most vulnerable associations do not undermine the overall investment confidence in the sector Providers with significant plans for sales activity or those who appear debt hungry can expect the regulator to be interested in how they are stress testing and proposing to manage any downside risk, and the contingency plans that they have in place Review costs - although costs are falling, there is still a wide variation between providers, some 50% of which is unexplained and will be a focus during IDAs
Governance considerations Cash/Liquidity has your organisation got access to cash when it needs it? How exposed is your organisation to property sales? Do you really understand your exposure to counterparties? Cash held on deposit Ability to draw down on banking facilities Contractual liabilities under joint ventures with third parties How does your organisation monitor its loan covenants?
Governance considerations Does your organisation consider exit strategies from business activities that might no longer be viable? Review costs - use the regression analysis that has been produced by the regulator as the proverbial can-opener to ask how fit are we? Stress test, scenario and contingency plan; keep a constant eye on impacts and adjust accordingly
Conclusions
Conclusions Global interest rates were already at historic lows pre-brexit BOE appears to be talking the UK into a recession with further cuts in Bank Rate and an increase in QE Will there be a shift in the government s affordable housing policy? Market uncertainties will lead the regulator to be even more vigilant when undertaking IDAs Are your systems robust enough to cope with the post-brexit environment?
Richard Murphy, Director Murja Ltd Richard.murphy@murja.co.uk