Investors: social housing remains a low-risk sector

News07 Apr 2020Luke Cross

Funders active in both the private and public bond markets told Social Housing that they see the sector as far less of a concern than a number of other industries trying to navigate the COVID-19 crisis.

Markets are resetting in response to COVID-19

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Investors have reiterated their appetite for #ukhousing, while suggesting credit spreads are likely to be wider in the foreseeable future in line with market movements #socialhousingfinance

Funders active in both the private and public bond markets told Social Housing that they see the sector as far less of a concern than a number of other industries trying to navigate the #coronavirus crisis #ukhousing #socialhousingfinance

That comes as credit rating agencies Moody’s, Standard & Poor’s and Fitch set out their positions on housing associations (HAs) in the past week (see below).

While UK social housing is still seen as a low-risk sector, new deals in the private and public spaces paused for part of March as fund managers took stock of their investments and the markets responded to intervention by global central banks, including the Bank of England.

With gilt yields at historic lows, spreads will likely be driven as much by the investor’s need to make a return as the credit risk.

Following a period of major volatility in March, there were reports of global stocks rallying yesterday (6 April 2020) and investors beginning to see some signs of stability returning.

But coronavirus continues to have devastating consequences on a global scale, with the UK lockdown triggering fears for public finances and a recession looming large.

A different world

Sterling investors welcomed Optivo’s bond issue last week, which was part of the first wave of activity in the corporate bond space following a hiatus in mid-March.

The Optivo deal was done at a spread of 230 basis points (bps) and coupon of 2.857 per cent, while Sanctuary followed with 160bps and a 2.375 per cent coupon. Both paid new issue premiums well below corporates globally.

These spreads compare with 98bps for Clarion in January 2020, and 127bps for Sovereign in October last year. But as Sarah Smith, chief financial officer at Optivo, commented: “The world looks and feels very different to how it did a month ago.”

Speaking to Social Housing after Optivo’s issuance last week, Mark Davie, head of social housing at M&G – the sector’s biggest investor in public and private deals – said: “Investors are all trying to get a handle on their existing investments. We are looking at our portfolios on what we think the risks over the next three, six, nine or 12 months mean for our investments. I think HAs remain low-risk investments.”

While he said there will still be funding available for HAs, it will now be at a different pricing level.

Mr Davie added that spreads are not just about the credit worthiness of the organisation, saying “there is a need for an investor to get an underlying return through the combination of the gilt and spreads”.

He added: “If things go back to some sort of normality by September or October, I don’t think the impact in this financial year would hopefully be that huge. If it takes a year, we might need to consider some forgiveness on covenants.

“For most of them I think it will be a cash flow issue and most have got plenty of liquidity.”

He added: “We don’t want to cause a problem – we want to be as helpful as we can. We’re long-term investors and these are long-term relationships.”

Allen Twyning, head of debt origination at the Pension Insurance Corporation (PIC) – which has more than £1bn invested in the sector – told Social Housing there had been a standstill in the private debt market as people “try to get used to this new normal”.

But he said: “There are other industries under far more pressure – and that validates the investment case for lending within this sector.”

He said that Optivo’s issuance marks a “terrific achievement to go out and place a deal in these conditions”, but that the era of HAs doing deals at 100bps is “history for the foreseeable future”.

Mr Twyning added that PIC will “be sympathetic to the operational and practical difficulties in running a business in these difficult circumstances”.

“We are using these [investments] to pay pensions, and we have a long-term arrangement with these organisations. Unless we are convinced that something is going seriously wrong, we will treat each case against the merits of that credit and at that point in time.”

David Cryer, head of liability-driven investment and private placement at BAE Systems Pension Funds Investment Management, which also invests in public and private deals, agreed there would be other sectors in his portfolio he would be concerned about before social housing borrowers, which are relatively low risk and broadly liquid enough to come through what is a “temporary issue”.

On an operational level, he pointed to HAs saving cash flow by moving to emergency repairs and more certainty of income as more people move onto Universal Credit.

Speaking after Optivo’s bond issue but ahead of Sanctuary’s deal, he added: “I think the market will quite quickly move inside 200bps.”

The requirement for secure, long-term assets to invest in also puts social housing providers on a sound footing, according to others operating in the funding market.

“Investors are buying quality paper, and housing associations are part of the flight to quality,” said Piers Williamson, chief executive of long-standing bond aggregator The Housing Finance Corporation.

Patrick Symington, chief executive of MORhomes, which is owned by more than 60 HAs and has 11 borrowers, said last week that the market has been “trying to get to grips with cataclysmic changes”.

“I don’t think investors know what the right spreads should be, but I think it’s beginning to settle.”

However, Dominic Brindley, director in the corporate financing and risk solutions team at NatWest Markets, said there are already signs of spreads tightening.

He welcomed the Optivo and Sanctuary deals as the first to issue in the corporate space and said the Bank of England bond-buying will add support to the sector’s spread levels.

“Clearly the move wider in terms of credit isn’t specific to housing associations. It’s a general move wider in credit,” he said yesterday (Monday 6 April 2020).

“But in the last two weeks a number of bonds have started to trade tighter from where we saw the wides in secondary spreads with some bonds trading 10-15bps tighter."

Rating agency response

In March, Fitch Ratings moved four HAs to a negative outlook in March, triggered by its downgrade to the UK sovereign rating to AA- as a result of a significant weakening of the UK’s public finances caused by the COVID-19 outbreak and “a fiscal loosening stance”.

It cited the “deep near-term damage to the UK economy caused by the coronavirus outbreak and the lingering uncertainty regarding the post-Brexit UK-EU trade relationship”.

A2Dominion, Great Places, Hyde and L&Q saw their outlooks move to negative, but remain on A+ ratings.

Fitch went on to say that it does not anticipate any immediate rating impact on registered providers.

Yesterday (Monday), Moody’s said that while operational effects for HAs will be “material”, credit impacts will not. In a research update, the agency said that strengthened liquidity from reduced spend on development and repairs would enable associations to mitigate the impact of financial challenges.

Meanwhile, Standard & Poor’s (S&P) said it is taking a case-by-case approach.

Eileen Zhang, analytical manager for international public finance at S&P Global Ratings, said that the agency is evaluating the impact of COVID-19 on the UK social housing sector on a case-by-case basis, considering factors such as the location of properties, type of tenant base and exposure to sales or care activities.

However, Moody’s and S&P are yet to release their latest view on the UK sovereign, understood to be scheduled for this month, which could have a direct impact on HA credits because of the support they receive from the UK government.