Term Sheet: UK rates edge up again, German banks navigate a tough market, credit standards get tighter

After another UK rate rise, not everyone is convinced the end is in sight; Germany’s Aareal Bank and pbb Deutsche Pfandbriefbank update on their real estate performance in a tough market; Savills considers the risk of tightening credit standards; and more in today's briefing, exclusively for our valued subscribers.

They said it

“The tide has not gone out yet on private lending, meaning the portfolios haven’t been tested”

Howard Marks, co-founder of private equity firm Oaktree Capital Management, tells the Financial Times (paywall) that it’s crunch time for the private credit sector

What’s happening?

Not so fast
Signs that inflation is easing in the UK mean it is plausible to expect that the Bank of England’s 25 basis points increase in interest rates last week – it’s 12th consecutive hike – could be the last rate rise in the cycle. Clarity is also expected relatively soon on the European Central Bank’s main deposit rates, which some in financial markets expect to peak at 3.65 percent by September.

Where interest rates will settle remains the biggest unknown facing real estate lenders. Many expect stabilisation later this year. But Ellis Sher, chief executive officer and co-founder of Maslow Capital, a London-based development finance lender, is not convinced. Speaking at the PERE Europe Forum 2023 last week, Sher said he feared inflation would persist: “It doesn’t feel like interest rates are going anywhere other than up and interest rate [rises] have so far only had a modest impact on inflation. How do you get inflation down if rates stay at 4 or 4.25 percent? I wouldn’t be surprised if, a year from now, they are at 5.5 percent.”

German banks – bullish but vigilant
Germany’s real estate lending banks face a testing market but appear resolute nonetheless. In its Q1 update, Aareal Bank announced a year-on-year doubling of operating profit to €62 million for the period, with net interest income up 40 percent. “We are taking a forward-looking, vigilant stance in the current challenging environment,” said chief executive Jochen Klösges.

The Wiesbaden-based bank’s real estate lending – including renewals – was down sharply for the period, to €1.1 billion, compared with €3.3 billion in Q1 2022. But gross margins were around 300 basis points, up from 220bps in the same quarter last year.

Meanwhile, pbb Deutsche Pfandbriefbank reported lower pre-tax profit for the period, down €10 million to €32 million in Q1 2022. However, the Bavarian bank said it wants to profitably grow its commercial real estate financing business, even merging other divisions into a non-core segment to enable a strong focus on the goal. “We expect markets to calm down by the end of the year and are looking forward to seizing growth opportunities at the right time,” said chief executive Andreas Arndt.

Yet another property credit fund
Since the start of this year, it’s been an odd news week if there’s been no mention of the launch of another real estate-focused credit fund. This week is no exception. A joint venture between two German firms, Munich-based manager Lenwood Capital and H&A Global Investment Management, a holding company of German private bank Hauck Aufhäuser Lampe Privatbank, has begun fundraising for a targeted €350 million residential-focused vehicle – HAGIM Lenwood Real Estate Debt I.

Lenwood said investor demand for the residential sector informed its decision to focus the lending fund on the sector. The flurry of debt funds in the market suggests managers see an opportunity to enter or return to the market due to European banks’ cautious approach to allocating capital. Furthermore, imminent refinancings make for a scalable opportunity for debt fund managers.

A Spanish acquisition
Stockholm-headquartered credit management services company Intrum has bought Spanish servicing platform Haya Real Estate for €140 million. The company, which already operates a servicing franchise in Spain, said its purchase of Madrid-based Haya, which manages non-performing loans and real estate owned assets, is expected to generate “a very attractive return”, given its existing client contracts. Haya’s current clients include Spanish lenders such as BBVA, CaixaBank and Grupo Cooperativo Cajamar. “Post transaction, Intrum will be a key servicing partner to all of the leading banks in Spain,” Intrum said in a release.


Banks not out of the woods
According to a senior figure in the real estate investment management industry, there is a clear sense of risk in the banking sector owing to rising interest rates, a fall in the value of banks’ asset bases, and depositor nervousness. In a guest article for affiliate title PERE, Tony Brown, global head of M&G Real Estate, said although relative calm has descended on financial markets, office valuations remain a key unknown for US banks.

“A direct problem for real estate investors could emerge if we were to see a wave of loans go into distress,” said Brown. However, he added: “While this cannot be ruled out, there is good reason to believe that the current banking turmoil will be contained.”

While he believes risk in the banking sector cannot be ignored, Brown argued that banks are more tightly regulated and better capitalised than in previous crises, particularly in Europe. “We believe tighter credit conditions are inevitable. But a full escalation of the banking crisis is not,” he said. Read Brown’s argument in full here.

Terms as risky as rates
Tightening credit standards among European lenders is potentially a bigger risk than interest rate rises, argued property adviser Savills in a note on Friday. While the rates outlook is improving in the region, “the prevailing rate of interest is only one component of credit availability; the terms and conditions of loans also impact the flow of credit to the economy, and to commercial real estate,” the London-based company warned.

Credit standards in Europe are tightening at “levels not seen since the sovereign debt crisis”, underpinned primarily by shifting risk perceptions, it added. Citing the RICS Q1 Global Commercial Property Monitor, investors and occupiers in the Americas and Europe are reporting that they “overwhelmingly experienced” lenders tightening terms over the period. The outlook, concludes Savills, is a difficult market for those seeking to refinance or source fresh financing in the next 12 months.

Data snapshots

Debt costs strain offices
According to consultant Savills, debt costs remained above prime yields for offices in most key European markets during Q1 2023, which continued to hamper investment transactions. Read more here.

Loan in focus

Grand Brighton Hotel: A seaside landmark. (Source: Leumi UK)

A grand loan for Leumi
London-based Leumi UK, the UK subsidiary of Israeli lender Leumi Group, has provided a £43.7 million (€50 million) loan to Israeli firm Fattal Hotel Group to fund the acquisition and refurbishment of the historic Grand Brighton Hotel in the English seaside town of Brighton.

The five-star hotel is a landmark on Brighton seafront. It is known for playing a part in history as the scene of a 1984 bombing by Irish republicans in an assassination attempt on then UK prime minister Margaret Thatcher, in which five people were killed.

The hotel, which dates back to the Victorian era, is located in one of the UK’s best performing hotel markets, Leumi said. Liam Mullans, relationship director at Leumi UK, said the deal was closed in eight weeks because of the longstanding relationship between the bank and the hotel operator. The deal highlights the importance of relationships in an uncertain market.

Today’s Term Sheet was prepared by Daniel Cunningham, with Lucy Scott, and Mark Mwaungulu contributing.