The Spotlight on London Demand examines the challenges London will face with an ever growing population. Download here.

We’re currently seeing the highest level of new build sales activity in London since before the credit crunch, but many questions remain. Here, we do our best to answer them.

Q. Is it possible to build 50,000 new homes a year?

Building at this level is not unprecedented. Between 1930 and 1939 we built about 61,000 new homes a year. London’s population peaked at an estimated 8.6 million in 1939. Currently at 8.1 million and growing fast, it is expected to exceed that level again over the next 10 years.

Despite similar size in population we have a very different building environment today. Back then builders did not face the same planning restrictions and regulatory burdens that restrains construction now. A taxpayer funded public sector played a far greater part in the delivery of new homes whereas today we rely largely on a market based system of private sector housing supply.

Changes to planning rules under the National Planning Policy Framework (NPPF) which introduced a presumption in favour of development in 2012, has helped. But the industry is still concerned that planning conditions attached to many permissions continues to prevent construction work starting on sites.

Q. Where is the greatest need for more homes?

Since the start of the credit crunch house builders have shown a preference for delivering homes aimed at wealthier income-rich purchasers rather than credit-reliant buyers on lower incomes who may struggle to secure a mortgage. As such we have seen high levels of building in central locations at the expense of the construction of more modest homes in the less glitzy periphery.

This focus must be rebalanced. Demand falls as you move up the housing market. The greatest unmet demand is at the lower end of the market where there is a shortfall of 15,000 homes a year. In the Mid and Upper Mainstream markets that gap is about 6,500 homes. In prime markets demand becomes harder to quantify because much of it has come from overseas in the past.

There is more tangible demand and opportunity to build developments under £450 psf in outer London boroughs such as Croydon and in parts of inner boroughs such as Lambeth. The industrial nature of areas east of the capital translates into lower land values. Much land in these areas has been earmarked for development but may require regeneration.

Q. How deep is the demand for New Prime property?

Our analysis indicates that there is enough demand for homes priced between £1,000 psf and £2,000 psf to justify the current supply. But there is a risk of over supply if this pipeline increases further or if current levels of demand fall away.

Demand for new prime property in this price bracket consists predominantly of investors, many from overseas who view London as a safe place to live, work and educated their children. The popularity of homes in what is an emerging market has resulted in a premium for new build homes in locations which have yet to become fully established. We would question whether all new schemes can justify their premiums.

A slow down in economic growth abroad and further taxation of high value property at home, could dampen demand for London homes in this bracket. However, the real test will come via the rental market. Will tenants be prepared to pay the rents required to deliver the returns investors expect? We are already seeing weak rental growth in prime central London where there is plenty of rental stock.

Q. What about Super Prime?

London continues to be the city of choice for trophy homes, especially in core prime areas such as Mayfair. Global wealth creation is set to continue. Wealth-X, which tracks the fortunes of ultra high net worths (UHNW), estimates that in 2012 there were 190,000 UHNW individuals representing $26 trillion. Their value is expected to increase by 30% over the next five years.

We expect the world’s wealthy to continue to buy in London. The size of this market is growing and new build is taking an increasing share. Sales volumes have increased steadily since the downturn and we expect this to continue. New build homes can be tailored towards the needs of an expanding pool of ultra high net worth individuals, especially those buying early in the stage of construction.

Institutional investment

Greatest need identified in Mid Mainstream market

As the largest employment and higher education market in the country, London will continue to attract young professionals and students. Meanwhile, the constrained affordability of the owner occupied market will keep households in the rented sector for longer.

We estimated that the UK will need £200bn worth of investment in private rented stock over the next five years to meet demand and 30% of that will be in London. We have estimated the current level of investment in new build rental stock in London and also calculated the total investment required to cater to the additional 50,000 households in need of housing each year.

Current annual investment in new build rental stock is in the region of £7bn a year but this will need to rise by 70% to £12bn to meet this higher housing need. The bulk of new demand from households will be in the affordable and lower mainstream markets, each requiring around £2.7bn of investment annually. This compares to a total of only £2.1bn for the two markets in current annual investment. It is these two markets that are likely to be most attractive to longer term money with gross yields in the 5%-6% range but the greatest difficulty will be in obtaining land that is viable in these lower value markets.

The Mid Mainstream market will also require a significant increase in investment from £1.7bn currently to £4bn while the Upper Mainstream market will require additional investment £0.7bn a year.

Overall investment in the New Prime market is much higher than the £2bn in the chart but, particularly at the very top end of the market, many investors have no interest in a rental income and are investing for capital value uplift. Even so, investment in the sector is well above that required and the continued interest from buyers risks over-supplying the market and creating downward pressure on rental values.

Taken from
Spotlight: London Demand