writes Jane Roberts
A guest at Great Portland Estates’ recent half-yearly results presentation says he couldn’t get over how unremittingly positive all the indicators were for the company.
The macro and property market trends, project pipeline, joint ventures and sell downs to manage risk on specific projects, the low cost of finance… “The deeply discounted post-crash rights issues REITs were forced into were slightly shaming, but most have sorted themselves out and are adding a lot of value,” he mused. “There are exceptions who were always impressive, but as a group, listed property companies are much better run than they used to be.”
Successful property companies maintain their banking relationships where they can but are capitalising on their range of debt finance options better, as one banker points out in our special feature on property company finance.
The stars are aligned: huge investor appetite for property debt (as long as it’s not wrapped in a complex securitisation) is buoying public and private bond markets.
Low interest rates and high share prices mean sponsors can borrow flexibly and cheaply; GPE’s September convertible with a 1% coupon was one of the lowest paying ever launched in the UK and the conversion price is higher than the 35% conversion premium because GPE’s shares are trading at premium.
You might say it’s not the borrowers but the traditional bank lenders who need to sort themselves out now. At the Commercial Real Estate Finance Council’s conference this month the mood was upbeat and everyone was extremely busy.
But Lloyds’ John Feeney made the striking comment that the apparent calm and flush liquidity in the banking markets was deceptive and a lot of banks’ business is unprofitable, “which has to change”. Another banker puts it even more strongly: “Bank profits of the past 10 years have been phantom profits.”
There is still a huge backlog of European legacy loans to clear but banks have made progress and management focus has switched to the profitability of new lending.
Particularly challenging is heavier regulation putting pressure on the profitability of bank real estate lending, not just in the UK but elsewhere in Europe, including Germany, with its tradition of single-model specialist property banks.
Even the best-run of these specialists, such as Aareal, find the regulatory going tough. Aareal has met the Basel 3 regulatory capital requirements but the increased capital and liquidity ratios have suppressed returns.
The non-bank competitors gaining market share don’t face the same pressures, as Aareal’s Dagmar Knopek points out. Insurers get more favourable regulatory treatment for European senior lending under their regulatory regime, Solvency 2.
Aareal believes it can get to a satisfactory return on equity soon. Other banks may not. Borrowers are right to diversify their debt sources because all the banks lending on property aren’t out of the woods yet.