The UK residential real estate market offers reasons for optimism in 2023

The market continues to be impacted by the fallout from Kwasi Kwarteng’s uncosted growth plan announcement last autumn. While there has been a rebound since in the number of mortgage products available to buyers, and the rates available for those products are slowly coming back within more typical ranges, it is clear there will be a period of depressed house price growth in the mainstream residential market. This will inevitably impact the activities of the volume housebuilders this year.

However, some of the leading commentators see reasons for optimism in the medium-term. Savills, for example, said that while it predicts an average 10% fall in house prices across the UK in 2023, it expects the position to stabilise by the middle of 2024 and for losses to be made up by 2026. In an environment where there remains strong demand for new housing, it said “there will remain plenty of space for investment and innovation across the housing sector over the next five years”.

This outlook is supported by activity we are already seeing in the market, as housebuilders remain alive to opportunities for development on sites going through the planning process, where the development and sales process is unlikely to commence until later, allowing for market recovery in the interim.

Across the UK, there are large strategic development sites coming up in and around major cities, such as the Silvertown scheme in London’s historic docklands and the Smithfield scheme in Birmingham. Both are significant, residential-led, mixed-use developments that form part of wider urban regeneration projects and promise to have a transformative impact on the urban landscape.

We are also seeing a trend towards greater densification of housing in city centres, especially in taller buildings, particularly around transport hubs and in satellite towns, as central government and local authorities explore the repurposing of town centres and high street units more generally – in no small part accelerated by the pandemic and the shift in commuter/working patterns. There are opportunities for residential developers to acquire sites and deliver new homes as part of these urban mixed-use projects.

At the heart of many of the regeneration projects that are emerging is the concept of place-making – envisaging the building and operation of thriving new communities and relying on collaboration between the public and private sectors to deliver that. In 2023, we expect to see more innovative joint venturing between housebuilders/residential developers and institutional investors on the one hand, and local authorities, the major registered housing providers, and public funding bodies on the other.

Joint ventures (JVs) between the public and private sector can be mutually beneficial. For housebuilders and developers, they can provide a more certain pipeline through certainty of supply – including from the release of public sector land for development. For housing associations, partnering with a developer and housebuilder with a track record of promoting sites through the planning process and delivering development can help them meet their objectives around delivering affordable homes, which are increasingly central to scheme masterplans. For investors, which are increasingly targeting the affordable housing sector, they represent an attractive alternative to mainstream commercial assets where returns may be more challenging.

In addition, JVs may be able to benefit from infrastructure and affordable housing funding from bodies such as Homes England or via central government or other bodies such as the combined authorities, as the different motives of the various stakeholders can align behind a common purpose.

While activity in relation to mainstream volume house building will be suppressed in 2023, we do expect demand to grow in other areas of the residential market:

Build-to-rent (BTR)

The cost-of living-crisis and increased mortgage costs, for example, are likely to dissuade some would-be buyers and encourage them instead to rent. This creates an opportunity for investors in BTR property.

However, BTR providers are not immune to the high cost of materials and other construction costs impacting the whole real estate sector, while land prices remain a concern for new developments too and threaten viability. The main lever BTR providers can pull to address viability concerns is increasing rent levels, but a balance must be struck between doing so in a way that enables them to reflect increased costs while ensuring rents remain affordable for people already struggling with higher living costs. There is growing political pressure in this area – a rent cap remains in place in Scotland, for example.

Despite this, our expectation is that the BTR market will continue to go from strength to strength as it continues to provide the opportunity for stable cashflows. We also anticipate that there will be an increase in housebuilder activity in the BTR market and in relation to single-family housing given the suppressed demand for new homes.

Later living

The BTR market is also a route through which we expect to see growth in investment in ‘later living’ accommodation – many institutional funds and private equity houses see opportunities in relation to build-to-rent-for-retirement (BTRR) assets.

The BTRR sub-sector is nascent in its maturity and there remains some uncertainty over whether the offering fits with what customers want, but as interest and investment in BTRR grows, it is likely to provide opportunities for businesses wishing to operate integrated retirement communities (IRCs). In this regard, care home providers and mainstream BTR operators are potential beneficiaries of the increased investment we anticipate.

We expect the availability of later living accommodation for rent to also be included as part of mixed tenure private schemes, where customers also have the option of accessing the property via traditional long leases or shared ownership models: some residents do not want to be tied into buying, especially with deferred management fee levels likely to increase.

Allied to this, we anticipate investor interest to grow in relation to affordable later living housing. There may be scope for operators to become registered providers of affordable housing and obtain funding from Homes England for schemes.

A series of measures aimed at bolstering the supply of older persons’ housing in the UK were recommended in the recent Mayhew review to account for the steep rise in the number of people aged over 65 in the UK that is anticipated between now and 2040. However, in our view, planning law reform is necessary to make it easier to build later living schemes and could be delivered via the Levelling Up and Regeneration Bill currently before parliament.

The National Planning Policy Framework (NPPF) could be updated to introduce a specific expectation that, within ensuring that the needs of older people are met, particular regard is given to retirement housing, housing-with-care and care homes. Local plans could be drafted to respond to the particular needs of IRC development and be clear to distinguish them from ‘conventional’ C3 housing in terms of key areas such as affordable housing provision and viability. We are also advocates for a definition of IRC to be included within the NPPF.

The activities of the housing-with-care government taskforce, set up to bring together different government departments to explore ways to expand later living opportunities, will also be keenly watched in 2023. It remains to be seen whether this will result in a push to get people into later living schemes as a way of reducing pressures on the NHS and to free up housing for families. The sector has long been lobbying for stamp duty land tax relief on the sale of family homes.

However, while reform is needed, we do expect to see construction of new IRCs accelerate in 2023. Build costs are plateauing and there are signs that the backlog of schemes in the planning process that built up during the pandemic is clearing. ‘Net zero’ developments in particular will become more attractive to investors, operator and residents, particularly due to rising energy bills.

Student accommodation

The student accommodation market is also likely to increasingly attract the attention of real estate investors as demand dips in core commercial real estate markets. Provided the right product is in the right location, student accommodation offers investors stable cashflows with the ability to rebase rents on an annual basis to achieve the desired returns.

Student numbers are expected to grow until 2030 and we expect this to be matched by growing demand for basic, affordable student accommodation. In particular, opportunities for returns will arise for investors willing to engage in turnaround projects involving refurbishing and repositioning ‘first generation’ student accommodation assets.

There has also been a noticeable change of sentiment in relation to traditional student digs – houses of multiple occupation, or HMOs. Previously, these were seen largely as something that purpose-built student accommodation (PBSA) needed to replace and eradicate. Now, professionalised and aggregated by an institutional investors, HMOs are becoming seen as a complementary offering that targets a different customer base.

The continued persecution of the private investor through adverse tax changes and increased regulation coupled with appreciably higher borrowing costs on often relatively highly geared assets, all mean that now is a good time for institutional investors to assemble a portfolio of HMOs, provided they have the patience and experience to deal with the granular nature of the opportunities.

Wider trends

For the UK residential real estate market to thrive, the government needs to provide a stable, long-term, policy and regulatory framework that encourages investment and facilitates speedy development. As 2023 progresses, we expect housing policy to remain at or towards the top of the political agenda, as the UK’s housing shortage persists, ahead of the next general election – widely expected to take place in autumn 2024. Residential developers are likely to seek assurances from both existing and would-be policymakers over long-term housing targets and housing supply requirements in local plans, for example, and seek overdue reforms of the planning system.

We also expect to see a continuation of the move by industry towards modern methods of construction (MMC) in 2023. In the context of the UK’s housing crisis, there are particular opportunities around volumetric off-site methods of constructing homes, for example.

While it is not in and of itself a silver bullet, MMC provides a solution to cutting the cost of delivering new homes in a more efficient and sustainable way – important at a time when the decarbonisation drive is increasingly being reflected in legislation and regulatory regimes.

MMC can also provide jobs and become part of a wider solution to long-term skills and worker shortages. With this package of benefits up for grabs, it is little surprise that we have seen the UK government, along with industry, promote MMC, but there remain things the government can do in policy and regulation to accelerate its use. Pinsent Masons has been working with a coalition of businesses across the market to convince the government to take further action and hope to see this reflected in emerging government policy in 2023.

Co-written by Tom Johnson, Iain Gilbey, Natalie Harris, James Long and Anthony Newton of Pinsent Masons.