A lack of new supply means that residential developers in Central London face a much tougher rather than disastrous year over 2003 according to a new research report from FPD Savills.

Few would deny that residential developers working in central London have enjoyed good times over the last six years. A combination of huge investor demand and strong market conditions has proved to be a powerful driver.

Investors buy ahead of home completion

Investors have accounted for between 50% and 70% of all stock sold each year, generally buying well ahead of practical completion. In doing so, these buyers have provided developers with a major cushion to weather the much weaker market conditions ahead. The report highlights how there are some 23% fewer units for sale than a year ago and nearly half of the schemes marketing units for sale have 5 or less units available.

Despite the low levels of availability, the report highlights a number of pressures facing developers. Firstly, “poorer prospects for capital growth, low yields and a weak rental market lead us to believe that that investor demand will fall back sharply over the coming year” comments Richard Donnell, author of the report.

Owner-occupiers buy later than investor buyers

Fewer investment buyers means that developers will need to focus on owner occupiers as the key source of demand. A choosier, more price sensitive breed, they buy later into a development’s life than the investor and this is set to have an impact on developers’ cashflows, especially at a time when marketing costs and use of sales incentives are on the increase.

Bargains for buyers

“There could well be quite a few bargains out there for would be buyers,” comments Donnell. “Whilst the quantity of standing stock is lower than a year ago we expect it to be much higher this time next year.”

“This will be a combined result of a generally much lower take-up over 2003 and indirect competition from recent purchasers, whose concerns over the property market may prompt them to sell their virtually new properties on the market second hand.”

“We are likely to see the emergence of a ‘grey market’ for new or nearly new property,” adds Donnell.

Given the changing profile of demand, lower take-up and growing indirect competition, FPDSavills Research believe that headline asking prices for new build stock in central London are set to fall back by around 10% over 2003.

Donnell points out: “Most developers currently marketing units for sale will be selling at prices well in excess of what they expected when they bought the land. As such, a price fall will ‘dent’ scheme profitability more than anything else.”

“However, downward pressure on sales values is not what developers want at a time when the cost of development is rising i.e. increasing build costs and other costs such as affordable housing.”

Looking ahead

Looking ahead, the report highlights some good news for developers. In particular, a lack of stock in the future supply pipeline.

Competition for land and lengthening planning delays have limited the amount of new supply in the future supply pipeline. For example, there are less than 700 units of new potential supply in 2004 that are currently committed i.e. under construction, compared to 2,400 in 2003.

There are sites with planning permission that could come to the market in 2004 but it is a question of whether these will actually be developed. With land holding costs low as a result of low interest rates, Donnell believes that a growing number of schemes with planning permission are likely to be put on hold in the face of current uncertainty.

It is important to note that just a third of this potential supply is owned by developers, a wide variety of organisations owns the remaining two thirds. The net effect of this trend will be to limit the expansion of future supply even further.

Looking ahead Donnell concludes: “We do not expect market conditions to bounce back strongly in 2004. Our current expectation is that take-up will remain weak over the course of this year and into next, primarily as a result of affordability issues.”

“The good news is that such tight supply pipeline means that when demand picks up the market could bounce back quite quickly.”