Credit risks on uk commercial property lending
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Transcript of Credit risks on uk commercial property lending
Credit Risks on UK Commercial Property Lending
APRO705 Lending and Risk Strategies
Emefa Anthony-Sikpah
7th December 2011
CONTENTS
I. The story so far
II. The risks to be considered
III. Risk strategy: Forbearance
IV. Conclusion
THE STORY SO FAR...
CRE exposure remains high
The pre-crisis increase in debt in the
corporate sector was primarily used to
raise leverage for CRE companies
CRE lending reached £250bn between
2008 and 2009 to decline by 3% in 2010
to circa £243bn
Real estate lending in the UK accounts
for circa 50% of total exposure of UK
banks to non-financial firms
Sharp falls in property prices have led to
a rise in write-offs on lending but they
remain below levels witnessed during
the recession in the 1990s (graph)
Considerable credit risks remain
Lending to UK Real Estate Activity
Source: Bank of England
Write-offs are expected to rise in the future
Indices of CRE prices fell by more than 40% to 1997 levels between 2007 and 2009
Indices remained at 35% below their peak at December 2010
The quality of banks’ exposure has deteriorated considerably
Total arrears increased from 1.4% (mid-2007) to 7.6% (Sept 2010)
An estimated £34bn of loans are in breach of financial covenant and £20bn in payment default (June 2010)
IPD UK Quarterly Property Index (Sept 2011)
Source: Investment Property Databank
THE RISKS TO BE CONSIDERED
Risks to be considered (1)
Arrears Yields
Commercial property prime and secondary yields
Source: CB Richard Ellis
The value of lender’s collateral has fallen, causing many borrowers to breach their loan-to-value (LTV) covenants
Commercial property arrears
Source: FSA
Total arrears increased from 1.4% (mid-2007) to 7.6% (Sept 2010)
Risks to be considered (2)
Variations in capital values Breach of covenant causes
Commercial property prime and secondary yields
Source: De Montfort University
Almost 50% of breaches are due to “falling below an LTV covenant”.
Capital value changes from trough to January 2011
Source: CB Richard Ellis
Secondary property values fell more than those of primary properties during the market crash and have hardly recovered or fallen further.
WHAT IS BEING DONE?
Survival strategy: Forbearance
What?
Alternative to foreclosure or insolvency where the terms of a loan are renegotiated or relaxed in response to an actual or prospective breach– Loan restructuring– Payment holidays– Switch to interest-only loan
Why?
Reduces expected losses by providing greater flexibility to borrowers in breach
Reduces probability of defaults
Avoids selling collateral at depressed price and incurring a loss
Delays making write-downs until banks’ capital position is stronger
Risks from forbearance
Loan extension exits Change in economic conditions
UK GDP growth profile
Source: ONS, Cambridge Econometrics
Rising prices are not guaranteed. A slower-than-expected recovery could make a strategy of forbearance unviable and losses on loans would result in a reduction in bank’s capital
CRE debt maturity profile at end-2007 and end-2009
Source: De Montfort University
Forbearance is contributing to a concentration of refinancing requirements in the next few years but sources of funding at that time are still uncertain
Conclusion
UK banks’ CRE exposure still poses a considerable amount of risk
Some bank’s have resorted to forbearance to protect their capital position
Forbearance can enhance financial stability but it is a temporary solution
Banks should ensure they fully understand the composition of their loan books and in particular the strength of the cash flows and the borrower’s ability to meet their obligations
The pricing of risk is distorted and lenders need to ensure that their provisioning practices reflect realistic estimates of future cash flows
Bank’s should have a workable exit strategy in place and ensure that it is consistent with realistic market assumptions
QUESTIONS?
SOURCES
Savills research
CBRE research
Investment Property Databank (IPD)
Office of National Statistics (ONS)
Cambridge Econometrics research
Bank of England data
FSA data
De Montfort University research
THANK YOUAnd I hope you enjoyed the goodies.....
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