A sector still benefiting from hindsight

The past decade has been turbulent for European real estate finance, but the market that has emerged is more robust.

A little more than 10 years ago, it became apparent that a global credit crunch was happening, foretelling the worst crash to hit financial markets since 1929. On a lighter note, Real Estate Capital is celebrating a happier anniversary – a decade of covering the European real estate finance markets.

They say timing is everything, and the launch of this publication as a booming market was about to go bust led to 10 years reporting on arguably the most fascinating period in the history of property finance.

The anniversary has provided a good excuse to revisit the archive and to reflect on how things have changed between 2007 and 2017. Across a series of upcoming features – entitled REC Decade – we’ll be looking back at the stories that shaped today’s market.

The most glaring conclusion to draw from this retrospective is that today’s market has been heavily shaped by the cataclysmic events of 2007-08, with the serious consequences of the early noughties property debt bubble still being felt.

Leverage is lower across the sector, complicated financial products are no longer in vogue, and banks are far more risk-averse than they were 10 years ago. That has opened the door to the emergence of an alternative lending sector, which has taken the riskier slices of property debt out of the banking system.

Generally, there is a liquid market for real estate debt, but on more sensible terms than at the peak of the last cycle. Borrowers can generally source debt for a variety of investment strategies, but those seeking punchier loans need to look outside the traditional debt providers.

The sector remains far from transparent. But a wider array of capital sources, plus the emergence of debt advisors, has contributed to keeping lenders honest.

Post-crisis regulation has undoubtedly played a role in shaping a more disciplined sector. Views will differ on whether there is the right amount, or type, of regulation. But a greater scrutiny of the market has prevented banks from creeping back towards the reckless origination seen between 2004 and 2007, when borrowers could leverage assets to the hilt.

Many of those in senior positions in the sector today are veterans of the last cycle and no doubt bring with them first-hand awareness of how things should be done differently this time around. Market players’ memories of the way the last cycle ended are also part of the reason that senior leverage is capped at 65 percent rather than 85 percent, why speculative offices rarely get financed, and why loan covenants do not appear to have been compromised.

However, the further the market is from 2007, the more memories will fade and experienced people move on. We are in an elongated cycle, and the longer investor demand holds up, the temptation grows to compete hard for business and to grow loan books beyond optimal volumes.

This market peak is very different from the last one, principally because there is much more equity at play and debt is today a facilitator rather than an enabler. In mid-2017, it does not seem that a lending cliff is looming, but this stage of the cycle cannot last and there is a continued need for vigilance from lenders.

The fallout from the last crash is still being picked over and senior industry figures – such as the debt steering group established after the Investment Property Forum’s A Vision for Real Estate Finance in the UK report – are considering the best metrics and practices for lenders to adopt to ensure that the long-term value of the assets they finance is adequately monitored. It is crucial that lenders keep the lessons of 2007 in mind, going forward.

Those active today in real estate finance are taking a disciplined approach. But as the property cycle draws on, property lenders still need to demonstrate that lessons from the past have been learnt.

Email the author: daniel.c@peimedia.com