If it was not already obvious, housing associations and other organisations are facing a significantly more challenging funding environment since the Middle East conflict started. Long-term gilt yields are near record highs, swap rates have risen materially, and there is renewed uncertainty over the future path of Bank Rate. For associations with substantial development programmes or refinancing requirements, the resulting cost of new debt can look uncomfortable.
At the same time, the funding landscape is broadening. The forthcoming National Housing Bank represents a potentially significant new source of very low-cost long-term funding for eligible housing associations, particularly where borrowing supports affordable housing development. Its introduction should provide a valuable additional funding option for parts of the sector.
However, the National Housing Bank will not remove the need for conventional borrowing. Eligibility, available capacity, timing, the nature of individual development programmes and political pressure will mean that housing associations are likely to continue requiring substantial funding from banks and other lenders alongside any government-backed facilities and grants.
Focus on the costs you can control
As borrowers/advisors, we cannot negotiate the gilt yield, swap rate, SONIA or Bank Rate. We can, however, create competition around the margin charged above those rates, as well as the structure, fees, covenants and flexibility attached to a facility.
Term fixed-rate bank funding for housing associations can currently be available at margins broadly in the region of 100 to 200 basis points over the relevant reference rate, depending on the borrower, security, term, facility size and the size and funding costs of the lender.
For large sizes, the bigger bank lenders can push fixed rate margins down to around 100bps (or a bit lower), but they may be less interested in smaller tranches. Smaller lenders may be more comfortable funding at floating rates, so will likely add on a further margin to fix to cover the uncertain rate environment.
Even when underlying interest rates are expensive, there can still be meaningful competition around lender margins.
Look beyond the largest banks
The major UK and foreign-owned banks undoubtedly remain important providers of finance to the housing association sector. They can provide substantial commitments, revolving credit facilities, longer-term banking relationships and support for larger development programmes, and recent competition is driving down margins and covenant requirements.
However, they are not the only source of funding. Smaller and challenger banks can also offer attractive terms, particularly where the required facility size, security package and borrower profile fit their lending appetite. In some cases, a smaller lender or syndicate of smaller lenders may be more competitive for a £5-10m requirement than a major bank primarily focused on much larger transactions.
There can therefore be considerable value in approaching a wider range of lenders. Different lenders will also have different preferences around customer service, term, security, amortisation and fixed or floating-rate structures. Testing those differences can materially improve the final package.
The cheapest margin is not always the cheapest facility
Revolving credit facilities remain a key source of liquidity for many housing associations, but the headline drawn margin is only one part of their cost.
We find associations maintain substantial RCFs to provide liquidity headroom, to support regulator requirements, credit ratings or support future development programmes, in the event leaving much of that facility undrawn for extended periods. In that situation, the cost of setting up and maintaining these facilities becomes important.
Calculated as a proportion of the drawn lending margin, non-utilisation fees add up, especially on facilities just held for policy reasons. Charging security, meeting covenants and legal fees all add to the burden.
There may be opportunities to negotiate lower non-utilisation charges, particularly where there is strong lender appetite or where several banks are competing for the same transaction. An association may also achieve better value by resizing its RCF, staggering facilities between lenders or combining committed facilities with term debt.
A facility with a slightly higher drawn margin but a materially lower non-utilisation fee could ultimately cost less if the association expects to keep much of the facility undrawn. Arlingclose arranges unsecured facilities from public sector lenders in this vein, reducing cost and meeting policy requirements.
The correct comparison is therefore total expected all-in cost, not simply the headline margin.
Green funding can provide an additional pricing benefit
Housing associations are naturally well positioned for green and sustainability-linked borrowing given the scale of investment being made in new affordable housing, energy efficiency, retrofit and decarbonisation.
Some lenders will offer narrower margins or pricing adjustments where borrowing meets agreed environmental or sustainability criteria. The pricing benefit is often relatively modest, typically measured in a small number of basis points rather than a transformational reduction in borrowing costs. However, even a modest margin reduction can generate meaningful savings when applied to a large facility over a long period.
The National Housing Bank
The introduction of the National Housing Bank adds another important element to this picture. For eligible housing associations, access to very low-cost government-backed funding could materially reduce the average cost of financing development programmes. Where such funding is available, it should clearly be considered alongside conventional bank borrowing and capital market options.
A development programme may ultimately require a combination of grant funding, National Housing Bank funding, bank debt, revolving facilities and longer-term fixed-rate borrowing (if affordable). The availability of very low-cost government funding may also alter the optimum timing or structure of other borrowing.
The key question is therefore not simply which source of debt is cheapest. It is how each source fits together within the wider funding strategy.
Interest rate strategy remains critical
The uncertainty surrounding future interest rates also creates important decisions around fixed and floating-rate exposure. High swap rates can make long-term fixed-rate debt look unattractive. However, remaining entirely exposed to SONIA or Bank Rate also creates risk if monetary policy remains tighter for longer or rates rise further.
Many housing associations may benefit from combining fixed and floating-rate borrowing, staggering refinancing dates and avoiding a single large interest-rate decision at one point in time.
RCFs can provide valuable flexibility, while term borrowing can provide greater certainty. The National Housing Bank may provide another long-term funding layer for eligible expenditure.
The objective should be to build a diversified funding portfolio rather than attempting to predict the precise future path of interest rates.
How Arlingclose can help
Arlingclose works with housing associations to assess their borrowing requirements, approach potential lenders and compare different funding structures on a consistent basis.
At a time when underlying market rates are high, it is easy for the headline interest rate to dominate the discussion, but housing associations still have significant influence over how their borrowing is structured, which lenders they approach and what margins and fees they ultimately pay.
The arrival of the SAHP grant funding and National Housing Bank strengthens the range of options available, but it also makes funding strategy more complex amid politicians desperate to increase new supply. Associations will increasingly need to consider how government-backed lending, conventional bank facilities and longer-term debt fit together.
Creating competition between lenders and selecting the right mix of funding has therefore rarely been more important.
