City view: Germans’ appetite for lending could feed UK

While UK banks and building societies show no hunger to lend large sums, German lenders are beginning to return to the table

By Max Sinclair

Many property people are scratching their heads about property finance.

Despite an overall reduction of available debt, pricing is actually falling. And, in a difficult investment market, some banks are actively seeking bigger deals. While I believe that the signs of life are fragile, I think much of this offers opportunities for the right management teams.

Many property investors now view the gradual increase in debt availability as one of the key elements of a return to normality in a market where activity in 2009 has been at historically low levels. Over the last month or so, there have been some tentative signs of recovery and so investors are asking whether these are real and if they will last.

No stomach

Following the collapse of Lehman Brothers last September – and well into this spring this year – banks almost completely lost their appetite and ability to finance property. Other than for exceptional borrowers, banks would consider only small loans – no more than, say, £100m – and margins quoted were at least 250 basis points for 50% loan-to-value ratios.

In each of the three years before 2007, the amount of new debt lent by the banking community was around £70bn-£80bn and even in 2008 it was around £50bn. The De Montfort University Commercial Property Lending Report, published in May, found that UK banks and building societies consistently accounted for around 70% of total debt capacity over this period.

Contrast that to right now. Savills suggests there are 10 to 12 lenders actively seeking to provide debt of more than £20m. Apart from a couple of UK institutions, most of these are the specialist German lenders. Of these, only one, Eurohypo, is openly stating that it will lend more than £100m on any one transaction.

It is difficult to forecast how much this group will lend this year. Even if we estimate £1.5bn per institution, this only adds up to around £15bn-£18bn of new originations this year. While there will undoubtedly be new loan origination from other sources, it is difficult to see 2009 funding exceeding £25bn-£30bn even at best. On the face of it, with supply tight, debt ought to be priced at a premium but the reverse is occurring.

“There will be more transactions next year and consequently
those banks that are in the market will find plenty of opportunities to lend”

There are signs that activity is picking up and that investors are preparing to return to the market. Transactional activity is beginning to approach – for prime property at least – stable yields, albeit on very small volumes of activity.

Listed and non-listed professional investors are evaluating investments to convince themselves that the bottom of the market has been reached. While, for the most part, many are not yet buying, there is an expectation that business will start to be transacted later this year or next year at the latest.

Out of sight of the UK real estate community, the German covered bond market has started reopening. This has been a Pillar of the German lenders for many years and its closure at the end of last year dealt a serious blow to their ability to refinance their loan assets.

While spreads are still historically high at 55 basis points for a five-year deal, they have already nearly halved from 80-100 basis points just a few months back. Not only does this suggest increasing confidence, it means the German banks will be able to share their reduced refinancing costs with property investors. In turn, this will make several transactions workable that would otherwise not make sense.

In the meantime, despite the small amount of new debt being written, there will be a good level of competition between the banks for smaller and medium-sized loans. This can be seen in the clear reduction in pricing being quoted on the deals that we are currently reviewing. For the right borrower and assets, margins are now being quoted in the 200-225 basis point area – a reduction of up to 20% in just three months.

Slow recovery

I expect – and hope – that 2009 will prove to be the low point in the lending cycle. I do not see a speedy recovery in liquidity, not least because banks will continue to grapple with the rebuilding of their balance sheets for some years to come. Nevertheless, there will be more transactions next year and consequently those banks that are in the market will find plenty of opportunities to lend.

Even if the UK banks return to lending, I expect the amounts that they lend to be significantly reduced from historic levels and I do not anticipate they will compete aggressively on pricing. I see pricing settling down to levels that are around, or slightly below, current terms. Hopefully, this will be the solid foundation we all need to get on with business again. (Max Sinclair, Property Week).


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