LNR/HPI Debt Forum: Cash still flows but it’s time for more caution

Global volatility is the focus of debate at LNR/HPI’s CRE Debt Forum, reports Jane Roberts.

LNR/Hatfield Philips’ annual Commercial Real Estate Debt Forum, held this year at Claridge’s in Mayfair and co-sponsored again by Paul Hastings, gathered together a line-up of senior players from the debt and private equity investing world to consider three topics: the impact of macroeconomic events on Europe’s real estate markets, opportunities in non-performing loans, and debt liquidity.

Blair Lewis
Blair Lewis

Held in London on 28 January, the weakening global macroeconomic picture and how to read it was the most consuming point of discussion. The backdrop was volatile stock markets, the torrid start to the year for many of Europe’s biggest banks, continuing concerns about slowing growth in China, stubbornly low growth in Europe and falling commodity prices. “Can we get ourselves in a funk, and overstate the impact of macroeconomic events on real estate markets?” asked LNR/HPI’s chief executive officer Blair Lewis in the first panel discussion.

The question drew different interpretations, with Stephen Eighteen the most bearish of all the speakers on the day. In his view, the volatile financial markets were a foretaste of things to come, a sign that: “We haven’t yet dealt with the last crisis properly. A lot of debt has moved around between various holders but total global debt has also actually grown since 2007.” In European real estate markets, “the mini cycle we’ve seen, where a bit of confidence has come from particularly US money coming into Europe, has probably peaked,” he believed.

Stephen Eighteen
Stephen Eighteen

Similar words about the period since last summer were used later by Citigroup’s head of European real estate finance Wes Barnes: “People realised that we had caught up again with the proverbial can we were kicking down the road. So, are we going to kick it again, or will something else come out of it?”

Eighteen, charged with shifting real estate in the Royal Bank of Scotland unit offloading its billions of non-core loans, before moving to Aalto where he invests in debt for institutional buyers, said there were always some deals to do in any market. His investors, for example, still saw relative value in 10-year fixed-rate real estate debt. Nevertheless, Europe’s property markets were not just expensive, they were overpriced and, with corporate earnings slowing, he didn’t believe the rental growth predicted will come through.

Aref Lahham, managing director at Orion Capital Managers, acknowledged that if economies got pushed back and occupational fundamentals worsened, that would be “worrying”. But he was encouraged “that liquidity has come out a little bit since the summer and the beginning of this year”, ushering in the prospect of some heat going out of pricing and real estate fundamentals catching up a bit with capital values which had in many cases become too expensive for his fund.

The view of Starwood’s European head of special situations, Peter Denton, is that now is not a time “to sit on your hands”, however it is a time “to think very carefully”. PIMCO, said its Europe executive vice president Laurent Luccioni, was “focusing on where we can add value”, and was finding opportunities in places like parts of southern Europe and Poland. But he said don’t assume there won’t be a fall in capital values: “The central bank (ECB) was very active last year, so we are not concerned about interest rates rising at all. That doesn’t mean prices can’t go down.”

Moderating the discussion on non-performing loans, LNR/HPI’s Wilhelm Hammel asked whether banks which have yet to sell NPLs had missed the sweet spot in terms of pricing. HIG’s former managing director, Ahmed Hamdani, described the first part of 2015 as “a perfect seller’s market where you had the whole world functioning well and a lot of big funds chasing pricing down. Things changed in the last quarter of the year when the world became considerably more wobbly. I think we’re moving to a point where it’s going to be a more interesting buyer’s market.”

Notable trends for NPLs this year included much lower anticipated sales volume from the UK and to a lesser extent, Ireland, counteracted to an extent by more activity in Spain, the Netherlands and Italy, said PwC’s Thomas Veith. Conor Downey of Paul Hastings said the law firm’s view is that positive initiatives by the Italian government in the last 12 months, such as January’s guarantees for private investors if they buy securitised NPLs, would lead to greater investment activity in that country.

“Another big trend”, according to Apollo Management’s Skardon Baker “is the emergence of more non-bank loan sellers – insurance companies, closed-end funds and other financial institutions – beginning to show signs of getting assets into the marketplace.” One of the largest loan book sales last year was insurance group Aviva’s Project Churchill, which Lone Star bought for £2.2 billion. Insurance companies face different capital charges under newly implemented Solvency II, with commercial mortgages with long durations being heavily penalised, and that is a factor driving sales, Baker explained.

The NPL panel also noted a drop off in finance for loan portfolios in the latter part of 2015. “Some of the financings were starting to get backed up”, Baker reported. Deal flow and debt liquidity in core UK real estate markets, however, “was pretty stable” according to Lloyds’ global head of commercial real estate John Feeney, speaking on Rupert Gill’s panel on debt liquidity.

“We continued to place risk in the market within our underwritten assumptions throughout the year and did volume in every quarter…and we continued to see robust demand from investors for well-structured deals backed by strong collateral,” he affirmed. “Clearly conditions did change; developing different distribution channels, particularly CMBS, as we’d thought at the start of the year, was just not do-able.”

Overall, a majority of speakers said the picture for real estate is still positive. The relative value argument still held. “Most of the investors and players of 2015 are still active and we’re still active,” said Citi’s Barnes. If there was more distress there would be more opportunity and there is still a lot of liquidity, both equity and debt.

“People have no idea what to do with their capital,” said Patron Capital’s founder and managing director Keith Breslauer. “There’s still enormous waves of cash. I understand the three largest global distressed funds are capital raising and have been told they are going to wrap up in four months.”

Extraordinary economic backdrop yields “remarkable years” for NAMA

National Asset Management Agency (NAMA) is on target to pay back early the €30 billion of senior debt that it raised to buy €74 billion of par value loans from Ireland’s bust banks — by 2018, which is two years ahead of schedule. It also intends to repay €1.6 billion of subordinated debt by March 2020.

At the end of 2015, €22 billion of the senior bonds raised to buy the loans had been repaid and the bad bank has €8 billion of senior bonds left to repay. In terms of its remaining assets as at the end of 2015, €7 billion are attributable to Ireland.

Brendan McDonagh
Brendan McDonagh

NAMA’s CEO Brendan McDonagh was the forum’s keynote speaker. He described how the extraordinary economic circumstances of the last few years had helped in the resolution achieved so far. “Quantitative easing is great if you’re an asset management agency. It means that if it’s costing people to hold money they are chasing a home for that money. It means there are more investors and they’re diversifying risk and they want to invest in property as an asset class.”

2014 and 2015 were “remarkable years for NAMA” with “huge recovery in the Irish market and yields for certain assets reverting to pre-crisis yield levels. Investor demand is strong and we pushed big loan portfolio sales.”

Even relatively early in NAMA’s 10-year life, sales were made, due to the fact that a very large chunk, 38 percent, of NAMA’s assets were in London and the UK, one of the first property markets around the world to recover after the financial crisis. While at the end of 2012 the agency had only sold €1 billion of its Irish assets, 64 percent of its cash receipts that year were from sales, 80 percent of which were in the UK capital.

But NAMA’s CEO also described how bleak the picture had looked in the first two years after the bad bank was set up in 2010 and how it had required considerable nerve to stick to the original strategy of not selling Irish assets until liquidity started to return to the domestic market.

“A lot of times in the early days we had people coming into NAMA saying ‘you have to sell’”, McDonagh recalled. “I remember a gentleman from the US coming to see me and my senior colleagues, and he said…‘You’ve paid 43 cents on the euro for this portfolio and I’ve got cash here and I can give you 25 cents now’ and we thought he was joking but he was very serious.”

Though a laissez faire, sit-it-out stance wasn’t an option at a time when Ireland’s banks were initially totally dependent on the European Central Bank for bank funding, the bad bank’s management team and board stuck to its guns, McDonagh said. “We would keep the Irish assets as long as we could, because we believed we wouldn’t get the right price for them, and we’d take the income in the meantime. And that was completely the right strategy with over €5 billion of income collected to date.”