Property: Inflated expectations

High inflation and the rising base rate are wreaking havoc with the UK’s property market. Kathryn Gaw asks how peer-to-peer property lenders are responding to the challenge…

The rising vase rate affects just about every corner of the UK economy, but perhaps none more so than the property sector.

Millions of people are already facing higher mortgage repayments, while property developers are struggling to source financing from traditional lenders. Those borrowers who do secure funding are being hit with higher rates, which in turn can lead to a higher risk of default.

Over the past few months, peer-to-peer property lending platforms have had to find a balance between offering competitive returns to investors and setting fair rates for borrowers. Even for experienced lenders, this can prove challenging.

One platform chief told Peer2Peer Finance News that the base rate hikes have caused more issues for property lenders than the pandemic. Meanwhile, other platforms have reported lower investor demand for loans offering returns which are below the rate of inflation – 10.1 per cent as of March 2023. While some property development platforms are still advertising rates of around 15 per cent, the majority of lenders are stuck between a rock and a hard place, trying to attract new investors without pricing their borrowers out of the market.

Read more: Kuflink tightens loan management process

“Default rates are going up,” says Filip Karadaghi, managing director of LandlordInvest.

“Virgin Money just increased its bad debt provision by seven times compared to last year so it looks as if it will only accelerate.

“LandlordInvest should be able to withstand it as most of our borrowers have been active for many years and have significant portfolios as a cushion.”

Karadaghi believes that the key risk of P2P property lending in 2023 is “more difficult conditions due to the high persistent inflation rate.” This is a view that is echoed across the P2P property sector.

Atuksha Poonwassie, managing director and co-founder of Simple Crowdfunding, says that she does not believe that P2P property lending is inflation proof, and noted that many platforms – including Simple Crowdfunding – have felt pressed to raise rates in order to remain competitive.

“Overall, interest rates for P2P loans have gone up in light of market conditions,” says Poonwassie.

“Our first charge loans are averaging 10 per cent, with our second charge loans averaging 14 per cent.”

Simple Crowdfunding is not the only property lender to raise its target lender returns in recent months. Loanpad, Assetz Exchange, CapitalRise, and Folk2Folk are just a few of the platforms which have responded to rising inflation by hiking their rates. But as the old adage goes, higher returns usually means higher risk. So what are the key risks of P2P property investing in the age of double digit inflation?

Read more: CrowdProperty raises investor rates

“Across the board there is less funding available and what is available is more expensive,” says Brian Bartaby, founder and chief executive of Proplend.

“In residential, the key risk is borrowers being unable to afford rising mortgage payments during a cost-of-living crisis. In residential development, the risk is developers dealing with rising material and labour costs and availability of labour, then selling into a market struggling with higher interest rates and a cost-of-living crisis.

“For commercial borrowers and landlords it is being able to retain tenants and being able to lease and release vacant properties.

“For all borrowers being able to refinance properties at the end of their current loan terms, fewer lenders, less financial products and higher interest rates.”

Luckily, P2P platforms have an extensive tool kit at their disposal to deal with these problems.

P2P platforms pride themselves on their due diligence and credit-checking technology, and rightly so. Despite years of economic instability, preceded by a global financial crisis and UK recession, P2P property lenders have been able to maintain relatively low default rates across the board. In fact, the four largest P2P property platforms – Folk2Folk, Kuflink, CrowdProperty and easyMoney – have all maintained an impressive track record of zero capital losses to investors. This is a credit to their strict onboarding processes, and strong reputation in the borrower community.

These due diligence processes are particularly valuable when it comes to property development loans. Unlike banks, P2P lenders are known to take a hands-on approach towards development projects, sending building experts on site visits, offering flexible repayment terms and building long-term relationships with small-and medium-sized housebuilders which ensures a steady flow of future loans. But there are still many variables in property development, from the pace of work at the site, to delays in the development schedule, to the state of the overall economy and how it is influencing buying and selling behaviour.

Read more: Everything you need to know about property-backed IFISAs

“Most of these issues can cause delays in planned timetables so this is probably something to bear in mind for 2023,” says Karteek Patel, chief executive and co-founder of Crowdstacker.

“However, whilst delays are probably one of the key risks, investors can mitigate this to some degree by looking for investments where timescales, loan terms and planned works look comfortable, and experienced developers who are more likely to have factored these issues in from the start.”

There are several segments within the property lending sector, and some are proving to be more popular and inflation-proof then others. Uma Rajah, founder and chief executive of CapitalRise, says that the prime property market has seen “strong performance in spite of recent economic uncertainty.”

“This is driven by a few factors,” she says. “Namely the natural constraints on property supply, particularly in prime London areas, and high demand, especially from overseas buyers who appreciate the relative value of GBP purchases.”

In fact, CapitalRise has seen a 125 per cent increase in its live loan facilities over the past year.

“Prime property lending – especially in London – operates independently of the overall UK property market,” says Rajah. “Because of this we are seeing increasing demand from borrowers for prime property projects in the best locations.”

P2P platforms have another challenge. The rising base rate means that FSCS-protected savings accounts are now able to offer returns of up to five per cent. Peter Read, director and founder of Assetz Exchange, told Peer2Peer Finance News that P2P loans advertising target rates below seven per cent are not moving as quickly on his platform; whereas loans being offered at seven per cent or more are being snapped up by investors.

Read more: Higher rates forecast to increase demand for development exit finance

“When the yield is above seven per cent, it seems that people are more likely to invest,” Read said.

Ultimately, the risks associated with high inflation and the rising base rate have the potential to hit any part of an investment portfolio. Stocks and shares, bonds, and even cash holdings are not immune to the machinations of the market, and it is down to each individual investor to decide how they want to manage that risk. For some, that means diversifying their portfolio as much as possible; while for others it means simply being prepared to stay the course in the belief that the economy will improve.

“No complex asset class is really inflation-proof,” says Alan Fletcher, partnership director at Invest & Fund.

“You can’t escape the all-consuming broader economic circumstances that affect capital markets and property markets alike. But what you can do is balance your portfolio in a way that allows you to take advantage of stable returns that will lessen the impact of things like rising rates and negative medium-term volatility – and that’s what we offer.”

The Bank of England has projected that inflation will fall “quite quickly” towards the end of this year, dropping to five per cent by some estimates. Lower inflation rates should encourage the central bank to lower the base rate again, bringing us (almost) back to normal market conditions. In normal market conditions, P2P property lending stands out for its higher returns and strong track record.

Platforms just need to weather the next few months without seeing a substantial increase in defaults or a reduction in investment. The property sector has been through worse, and will face new threats in the future. It is the ability to move with these changes that will ultimately separate the great from the good.