Based on the current market-delivery model, our analysis shows that London’s residential development market has reached capacity. To meet strong demand from London’s growing economy and workforce, more affordably priced homes are needed. To achieve that, there needs to be change.

More Build to Rent and a strengthened Affordable Housing programme are part of the answer. But in order to increase delivery in the sectors of the market where it is needed most, further changes are needed to the way in which land is brought forward. It requires much greater public-sector land release. It points to a review of the green belt. It also means exploring ways of effectively capturing the uplift in the value of development land to fund infrastructure and affordable housing delivery, without killing the market.

Delivery not matching demand

When appointed London mayor, Sadiq Khan made the city’s shortage of homes his number one priority. He will be encouraged by the housing delivery figures for 2016. Leading indicators suggest 41,000 homes were completed. This is the highest number of new homes built since the 1930s and close to the London Plan minimum target of 42,000 per year.

But there’s no room for complacency. These numbers are a long way short of the 64,000 new homes per year required to support forecast employment growth.

Current delivery does not match the shape of demand, given a failure to meet targets in lower-priced markets. We estimate that 58% of demand is for homes costing less than £450psf, whereas only 15% of the five-year build forecast is expected at these values.

Building unsold homes

For the majority of the last five years, new-build sales and starts have outpaced completions in London due to a very strong off-plan sales market. However, in 2016 new-build sales slowed – much in line with the secondhand London market.

In the mainstream markets below £1,000psf, transaction levels have been affected by the continued affordability squeeze and a fall in domestic buy-to-let purchasers following a range of tax changes. Help to Buy (H2B), which has supported new-build sales across the rest of the UK, has been far less popular in London, where it is capped at £600,000. There have been just 5,700 sales since the scheme was launched in 2013 which means H2B has supported less than 10% of market sales. There was a distinct increase when the 40% equity loan was introduced.

Although uncertainty around Brexit and high stamp duty have had an impact above £1,000psf, total sales volumes have stayed fairly level due to international demand. Of more concern is the ratio of starts to sales – in this £1,000psf+ market, there have been 1.6 starts for every sale during 2015 and 2016. Together this has meant that 25,000 of the 60,000 market homes under construction in 2016 have not been sold. This represents the highest number of unsold homes that are under construction since Molior began recording new home supply data in 2009.

^{Source: Savills Research, Molior, Oxford Economics}

Affordability is stretched

As we look forward, we expect sales volumes across all price points to remain largely unchanged over the next five years.

Given stretched affordability and the constraints of mortgage regulation, purchases by owner occupiers are unlikely to increase unless more affordably priced housing becomes available.

Among investors, falling numbers of mortgaged buy-to-let buyers will be offset by increasing appetite for larger private rented-sector (PRS) deals, which have accounted for 21% of private sales in the last three years, an increase in overseas investment that is assisted by the weak pound (assuming the mayor does not meddle in this market) and steady volumes of domestic cash investment.

Transaction levels are down in London. High SDLT at upper price bands means fewer chains form to release smaller more affordably priced homes. Buy-To-Let purchases have reduced, and any additional restrictions on buyer types will further depress the capacity of the market delivery model.

^{Source: Savills Research, Molior (all sites under construction above 20 private homes including large scale PRS)}

Completions to peak this year

Reduced sale rates will slow income flows for developers. That means they will take longer to pay back debt, leading to slower completion programmes and reduced starts on new projects. We have already seen some evidence of this with construction starts falling by 25% in 2016.

While we expect 2017 construction completions to peak at 46,500, we predict that they are likely to slow from this point onwards unless further signicant stimulus is provided. Savills Research analysis suggests this will fall away to 35,000, but this could be boosted. The chart above shows how construction starts and
completions are expected to play out until 2021.

Policy intervention is required in order to reach the level of development needed as well as shift the focus to the lower-value markets. This must be a policy framework which encourages developers to maintain a London presence, at a time when other regional markets have begun to look comparatively more attractive, with more policy carrots than sticks, to ensure it is commercially viable.

As well as policy, continued momentum in the delivery of Build to Rent is crucial, given the needs of younger private renters. More private and public-sector partnerships are needed to deliver more intermediate tenure, and ensuring land supply to allow this to evolve.

The mayor must make best use of his forthcoming devolved powers to bring together housing, transport and infrastructure to provide the homes and workspaces for London to flourish.