European real estate is back in vogue, but the market that has returned no longer resembles that of the pre-crisis boom. ING Real Estate Finance’s John Boyles, Jan-Evert Post, Mike Shields and Peter Göbel look at the drivers of this new paradigm.
As Capital Requirements Directive IV came into force in mid 2013, few observers could have predicted the rapid recovery to come in the European real estate marke
“We have seen an unexpectedly quick rebound in the past 18 months,” says John Boyles, ING’s global head of real estate finance. “This has been fuelled by an inflow of money from the Middle East, Asia and the Americas, and partly because banks are benefiting from excess liquidity.”
This liquidity has caused a divergence from the real economy, propelling a steady flow of high-quality transactions to the market in 2014. It saw ING provide finance to back Olayan’s purchase of a portfolio of eight properties in Paris; Safra Group’s acquisition of London’s ‘Gherkin’ building; and Dream Global’s investment in the Cologne Tower, amongst others.
Even in the parts of Europe that have seen stronger economic headwinds, established sponsors have been able to secure significant financing levels on quality transactions, such as the Islazul shopping centre in Madrid. Growing appetite has been accompanied by a 100 bps-plus fall in margins in many cases.
A changing market
Despite renewed activity, this new dynamic is very different from the pre-crisis boom. A key change is that while many European banks are looking to rebuild balance sheets, tightened regulatory requirements such as CRD IV are strongly influencing not only decisions about asset quality, but also where banks can price deals competitively.
Jan-Evert Post, ING’s head of Germany, CEE, Asia and special projects, says: “The banking union is not yet a reality. Even though the ECB now has formal oversight of banking stability, domestic central banks still have supervisory authority. This means liquidity cannot flow as easily, which effectively traps it into banks’ home markets.”
In spite of this, the need to carefully manage portfolio risk concentration, in the face of competing pressures, either by country or client relationship, is a key learning point voiced by the ECB.
While a large portion of Dutch-headquartered ING’s portfolio has been funded out of the Benelux, the bank has followed a strategy to rebalance its portfolio, steering it towards a more optimal balance between liquidity sourced in a country and lending assets booked in the same market.
“We have been successful in rebalancing our domestic portfolio and managing it for best performance,” says Netherlands’ head Peter Göbel. “Fundamental to our approach is a risk management system that allows us to identify any issues and intervene at an early stage.”
In addition to trimming the overall domestic portfolio size, this early intervention has reduced provisioning levels. “Discipline in the home market is vital. By getting this right, we are better placed to realise our international ambitions.”
This proactive risk management culture contributed to ING emerging in a very strong position following the ECB’s Asset Quality Review, with a 10.1% CET1 ratio as of December 2013. Of the 125 banks vetted, ING ranked second, a position achieved without external advice or remedies.
Diversity of funding
One of ING’s advantages when generating international assets is its broad funding base, backed by deposits from its strong retail franchises around Europe: Germany, France, Spain, Italy, Poland and the Benelux. Many other banks cannot diversify as easily as ING can, as in most cases their funding and liquidity is focused in their home market.
Europe’s common real estate funding model depends on the pfandbrief market in Germany or the covered bond markets in the rest of Europe, and is therefore ultimately backed by institutional liquidity. By contrast, the reliability of ING’s funding base allows it to bid competitively on international deals, both in pricing and underwriting capacity.
Besides providing liquidity, swift and effective execution, certainty of funding and a culture of delivering on promises combine to create a consistent client experience across the bank’s real estate hubs in Amsterdam, London, Paris, Madrid, Milan, Warsaw and Frankfurt.
“We have between 10 and 20 dedicated real estate financiers in each location,” says Mike Shields, head of Western Europe, US and structured products. “This local knowledge gives us a strong understanding of the individual credit story and specific circumstances of each asset we look at. We can provide a view on what to buy, as well as being able to execute the funding strategy quickly.”
This knowledge is vital when assessing real estate, given the highly localised factors at play. International clients recognise this consistent experience, as shown in the amount of repeat business awarded to ING. “Our coverage of international players is best in class, as can be seen in our strong track record of deals this year,” Shields adds.
Syndications bring transparency
Syndications bring both transparency and discipline to price in line with the market. Although ING’s strong funding position allows it to finance at competitive rates, the bank is still committed to working with the market to find the right pricing points and to ensuring that deals work for all of the parties concerned.
One reason for this lies with another fundamental change in Europe’s real estate market, which was previously dominated by bilateral transactions, but is slowly transforming into one where syndicated finance is increasingly prevalent. If pricing is off-market, a successful syndication may not be secured.
The €750m of debt backing Olayan’s Paris deal illustrates how important it will be for the top finance providers to be able to syndicate in the future, as the trends toward larger transactions and stricter regulatory oversight coincide.
Post notes: “One natural consequence of the increased activity from international investors is the tendency to finance larger transactions: whole portfolios rather than individual properties. Olayan’s Parisian portfolio is a good example of this, with eight prime assets in central Paris.
“At the same time, the days of €500m take-and-hold lending positions are past,” he adds. “Our approach is to vet transactions with a view to their suitability for syndication. We will underwrite larger deals, but as a rule, our syndication colleagues will assess the marketability of a loan.”
By doing so, the bank aims to create a granular, diversified portfolio, satisfying the needs of both regulators and clients.
Increasing use of syndication will also bring more transparency, providing a strong indication of the market’s metrics and appetite. With league tables soon to be introduced for this market for the first time, clients will also be left in no doubt about which banks belong to the top tier of finance providers.
Connecting the dots
Looking to 2015, ING’s strategy is to connect the dots, bringing the advantages of a full product offering and broad network together for the benefit of its clients.
The bank has already had notable successes in this regard, including for example the purchase of Frankfurt’s Silberturm, led by Hines and with South Korea’s Samsung Life Insurance as the underlying investor. Hines selected ING as lead bank and swift execution followed as the global banking relationship between ING and Samsung provided extra understanding of the needs and wants of the parties involved.
Boyles says: “We are looking to deepen our relationships, not talk only to the asset manager, but to engage with the investors who provide the core liquidity. We need to understand their needs and strategies.”
In this way, ING’s objective is not only to consolidate a leading position in real estate finance, but to accelerate the use of its capital to boost returns. If it can do this while developing its portfolio in accordance with best regulatory practices, the bank will truly have achieved its aims.