Patrick Walcher is hardly a new face around LBBW’s headquarters. He joined the Stuttgart-based bank in 2000, at first working in its share issue business before moving to the commercial real estate financing department in 2004, where he was most recently in charge of global investor and open-end funds business, as well as having regional responsibility for the UK.
Following a shake-up at the bank, including a rethink of where property ought to sit in its structure, Walcher was named head of the commercial real estate finance division in January.
Property previously sat within LBBW’s corporate financing business. However, a new ‘real assets’ division – covering real estate as well as project and transportation finance – has been established. Thorsten Schönenberger, who previously led property financing, now sits on the bank’s board to oversee this business area, putting Walcher front and centre of the lending strategy.
Real Estate Capital caught up with Walcher to discuss the new set-up, how a conservative institution like LBBW deals with an evolving market, and headwinds for the bank’s core markets.
Real Estate Capital: What was the rationale behind reorganising the real estate finance division?
Patrick Walcher: The bank saw the growth potential across the wider field of real assets and so it makes sense for those business lines to be combined as a single division. The teams are specialist and need to be close to their markets. Other lending institutions and investors have taken this approach. Given the low-interest-rate environment, commercial real estate finance and project and transportation finance are a few of the only asset classes that still provide long-term income. We are often speaking to the same clients as our colleagues in project finance, so as we have reached a strong position with our CRE business, we will use that base to grow our project finance business.
REC: What is your objective for the real estate loan book?
PW: I’d like us to grow the business in our core markets of Germany, the UK and the US, as well as Canada and France which we have re-entered. We are still open for business, but we will not change our strategy. We have always been conservative in what we do, as a senior lender in core markets. I’d like us to grow the portfolio even though the lending markets are very competitive right now and I won’t change the strategy because it has proved valuable to us, with the right risk profile.
REC: Are you finding that the core stock you prefer to finance has become overvalued?
PW: It is difficult to say whether it is overvalued – that might not become apparent for some time – but prices are certainly high. We had some yield compression last year, so lenders need to be careful that in financing a property the risk is not simply transferred to the debt. Allowing leverage to rise as values rise is one of the main threats facing banks. However, the deals we are seeing are different from the previous cycle – there’s a lot of equity at play, so as long as banks take a conservative approach to financing assets purchased at high prices, they should be able to source sensible business.
REC: How will you measure lending risk?
PW: We have always considered the debt yield, so we don’t simply rely on the loan-to-value ratio. We don’t always have a debt yield covenant, but with ISCR (interest service coverage ratio) it is possible to stay focused on the debt yield. It is important to look at the cash flow of an asset before financing it – it’s the most important aspect to consider these days.
REC: What is happening to pricing?
PW: There is a lot of money out there on both the equity and debt sides – so there is a lot of competition, which is keeping pricing tight. I haven’t seen growth in margins, they have stayed the same for the last three or four months and are possibly even slightly lower in some markets, although not significantly. It is very competitive with some aggressive pricing and overbanked markets out there.
REC: Given how competitive Germany is, will you target growth there?
PW: Despite tight pricing, it is still one of the most attractive markets for investors because of the strength of the economy, the political stability and the ‘safe-haven’ factor.
So, we would like to maintain our business in Germany and, if possible, grow it. But we won’t do deals for the sake of doing business – they must be profitable and within our risk parameters. The difficulty is that there are fewer large-ticket transactions to finance because there are fewer large single assets than in markets such as London and Paris, because we don’t have one large market. However, investors have entered Germany through large portfolio deals, so 2017 was a strong year.
REC: Is there a danger that by sticking to core markets and sectors LBBW will miss emerging trends?
PW: Just because an asset doesn’t fit into our core markets, doesn’t mean that we don’t take a close look at it. For instance, UK private rented sector housing is very interesting to us, but it hasn’t reached the scale yet at which there are transactions of similar size to the German market. Of course, we are considering sectors such as co-working, but at the moment it would be difficult for us to finance a standalone co-working property, unless it was part of a larger, traditional office scheme.
We will closely monitor emerging parts of the market, but that won’t necessarily mean changing our strategy in the immediate term. I don’t think this means missing out on opportunities – we make decisions to move into interesting sectors, but they need to be interesting in the long term. We won’t finance a property because it is fashionable, but we need to be careful not to miss trends.
REC: At what stage would you consider adapting your strategy to take in emerging sectors?
PW: We will wait until they become more established features of the market and then consider sectors from a strategic viewpoint.
REC: You have had responsibility for the UK for several years. How will Brexit affect lending in the UK?
PW: So far, the market has been stable. There were significant deals last year, with new buyers entering the market from Asia and the Middle East; this might have been due to the currency benefits of investing in the UK, but it still shows that it is an attractive market. London is a stable place, but we may see the occupier market transform from being finance-driven to attracting other industries such as tech. I’m not too concerned about Brexit.
REC: Why has the business recently expanded into France?
PW: We have relationships with global clients and a lot of them want exposure to Paris as it is one of the world’s largest real estate markets. There is a renewed spirit in the market with the election of Macron.
REC: Why has it taken until recently to re-enter the market?
PW: When we developed our post-crisis real estate finance strategy we decided to focus on our domestic market as well as the UK and the US, where we had branches, to give us a platform from which to do business. But France is a market in which we can pursue our strategy of core lending, so it was a logical next step.
REC: Does the recent launch of an office in Canada also play to this strategy?
PW: Yes, it’s the same logic. We have been based in New York for many years and we also see Canada as a stable, attractive market in which we would like to take a share of the business. Our North American focus had been on the gateway US cities, so we have added Toronto and we have scope to look at Vancouver.
REC: What headwinds are you focused on in Europe?
PW: On the political front, there is continued risk, although there have been a lot of positive developments including Macron’s labour reforms in France. In the long term, some sectors are facing fundamental threats – such as retail, as e-commerce continues to grow – so as a lender it is important to take a view on how that sector will develop over the years. Probably the biggest threat is the prospect of increasing interest rates. It is possible to prepare for higher rates by lending on a conservative basis and always keeping debt yield in mind to afford some headroom. Being a disciplined lender and monitoring assets’ cashflow is very important.