HC 1652 Communities and Local Government CommitteeWritten submission from the New Local Government Network

I am pleased to enclose a copy of our report Retail Therapy, which explores the potential of retail bonds in local government capital finance, including as a potentially attractive financing option for investment in new housing. Housing investment offers stable and fairly predictable returns over a well defined period but requires significant upfront capital; this makes fixed income debt finance well suited to housing.

While our research focused primarily on the potential for local authorities, the retail bond market is also highly relevant to private developers and housing associations. I enclose a copy of the report for information but set out here a summary of the main findings.

What are retail bonds?

Retail bonds are tradable fixed income debt securities issued in sufficiently small denominations to be accessed by private investors. Retail capital; that held by private individuals is seen as one of few fairly “open” capital sources in the UK. Retail bond issuance could be used by councils, housing associations and private developers to finance investment in new housing.

What opportunity do they present for local government housing investment?

HRA reform, affordable rent and the New Homes Bonus are all likely to encourage some local authorities to look to increase investment in new housing. However in an era of reduced central grant they are increasingly likely to have to borrow to finance this investment. The increase in the PWLB rate to 1% above Gilts has meant that in the right conditions some authorities could secure a cheaper source of credit on private debt markets. The GLA for example undershot the PWLB rate by 0.17% via a wholesale bond issuance which raised £600 million as part of the funding for Crossrail in 2011.

Previously the focus has been on wholesale bond issuance; targeted at institutional investors such as pension funds and investment banks. However retail bond issuance could provide some unique advantages alongside the potential for a cheaper cost of credit. These include:

Accessibility: many local authorities may lack the scale of borrowing requirement to access institutional investors. Retail issuance can take place on a smaller scale than wholesale issuance and as such would allow far more authorities to access bond markets to finance housing investment.

Connecting citizens with capital investment: retail bonds could be targeted locally allowing for a stronger, more local connection between citizen, council and housing investment potentially generating stronger local buy-in for new developments.

Diversification: retail bond issuance would allow authorities to significantly widen their investor base bringing stability and choice to their borrowing position.

Barriers

There are of course some barriers to local authority engagement in this market however including current Gilt conditions which make PWLB borrowing relatively cheap in nominal terms; transactional costs associated with bond issuance; legal issues relating to use of derivatives and making coupon payments gross of tax; and a lack of certainty on the future of the PWLB rate.

Relevance Beyond Local Government

The retail bond market could also prove an attractive financing option for housing associations. These organisations do not have the option of PWLB borrowing and many already have a presence on private debt capital markets. The retail bond market presents a significant new opportunity for these entities to tap a new source of capital, raise their profile, and diversify their borrowing portfolio.

The best example here is that of housing association Places for People who raised £140 million via a retail bond issuance in June 2011, and returned to the market with an index-linked retail bond in January 2012 raising a further £40 million. Places for People have seen significant demand for these issuances with their first issue raising more than double what they had expected. This is indicative of the appetite from retail investors for affordable housing as an asset class.

If you would like further information about our work in this area please do let me know and we shall endeavour to help.

March 2012

Prepared 1st May 2012