BOE warns on future stability of commercial real estate in wake of Brexit

Britain's commercial real estate sector (CRE) has recovered a little from a significant slowdown since the Brexit vote, the Bank of England (BOE) revealed on Tuesday, but it warned that a future slowdown in the sector could pose a danger to financial stability.

The BOE oversees financial stability at a national level through its Financial Policy Committee (FPC) and the latest minutes of the FPC, released on Tuesday, show that it was closely monitoring the CRE sector following "sizeable net outflows" in the immediate wake of the June 23 vote to leave the European Union (EU).

"Given the illiquid nature of CRE investments, this had created liquidity pressures for those funds and several had suspended dealing as a result... Widespread, rapid sales of CRE assets had been avoided and spillovers to open-ended funds investing in other markets had been limited," the FPC noted in its minutes of its late November meeting.

The slowdown CRE market activity continued a "significant slowdown" in the first half of 2016.

The value of transactions in the third quarter 2016 had fallen by 10 percent on the previous quarter, and was 27 percent lower than a year ago. Aggregate CRE valuations had fallen by an estimated 2.6 percent since the referendum.

The FPC noted that there had been "signs of stabilization in the CRE market in September and October, with the level of transactions recovering a little."

Most open-ended funds which had suspended operations after the referendum had either re-opened or announced their intention to do so by the end of 2016, and flows into such funds had stabilized.

"So far, it appeared that the financial system had not materially amplified the shock that the sector had faced over the previous six months," the FPC said but noted that "there was the risk of further adjustment in the sector."

This could create financial stability risks, given the reliance of the market in recent years on inflows of foreign capital, and given that valuations in some segments of the market continued to appear stretched.

British banks' CRE exposures had fallen substantially since the financial crisis, with the stock of UK banks' CRE lending having halved in value since 2008.

But FPC members judged that an adjustment could result in a tightening of credit conditions by reducing the ability of companies that use CRE as collateral to access finance.

BOE figures for the 2015 funding of small and medium sized enterprises showed that three quarters of those companies that had borrowed from banks had used CRE as collateral. Endit