Study calls for more support for traditional German RE financiers

We carry a number of articles in this issue about engagements from either new or existing debt providers in real estate financing, moving into to areas of lending that would typically have been provided by the traditional banks and focused real estate financiers (see articles on Caerus, BVK and VGV).

A new study just released by the Institut der deutschen Wirtschaft (IW) in Cologne in conjunction with the Verband deutscher Pfandbriefbanken (vdp), the association of German Pfandbrief-issuing banks, carries a stark warning about the likely long-term effects of financial market regulation on the traditional sources of finance.

In particular, it highlights how the stringent demands of Basel III and Solvency II will see banks – particularly those refinancing via Pfandbriefe - being forced out of the property financing role, in favour of insurance companies, debt funds and pension pools.

According to Professor Michael Hüther, director of the IW, there is a political will to favour alternative providers of finance over the banks, by deliberately absolving insurers from the need to publish liquidity figures and by imposing lower equity capital requirements on debt funds than on banks, for example.

Jens Tolckmitt, CEO of the vdp, points out that the banks are effectively being forced to refocus on short-term lending by the new leverage ratios and liquidity measures LCR and NSFR demanded by Basel III. Likewise, Solvency II decrees that insurance companies have lower incentives to invest in long-term Pfandbriefe, since it would tie up more of their equity capital – with its accompanying negative consequences for bank refinancing and thus banks ability to provide loans.

Hüther raises the question in his study as to whether the alternative finance providers have boththe will and the ability to underwrite long-term lending. “First of all they have to build up the necessary know-how so they can make accurate assessments of the likely rate of delinquency of such long-term loans”, he says. Another factor hindering debt funds is that their investors are normally oriented to the medium-term (5-7 years), rather than the long term (10 years plus). Solvency II even provides incentives for insurers to plump for shorter loan terms, since they need to underpin the loans with less equity capital.

Longer-term financing is the norm in Germany, particularly in private residential mortgage financing, with more than 70% of all new loans since 2000 being issued for a period of five years or more. Variable interest rate loans account for only 15% of new mortgages, compared to a eurozone average of more than 45%. Hüther argues that disadvantaging the banks in favour of more short-term oriented lenders would harm the country’s ability to plan for the longer term and would remove a key stabilising element keeping German prices in check.

Tolckmitt of the vdp sees the Leverage Ratio (the relationship between core capital and total balance sheet, which is not allowed to fall below 3% for any financial institution) as the proviso likely to cause the most problems, particularly when it comes fully into effect in 2017. “This will raise the cost of loans significantly”, he says.

Like Tolckmitt at the vdp, Hüther of the IW is firmly against any shift in long-term financing to the newer financial intermediaries who are less regulated, established and experienced, and he believes it would lead to unwelcome market distortions.

His proposal is to introduce the Leverage Ratio as a benchmark figure and have the authorities monitor it carefully for the next while. At the same time the authorities should lower the Liquidity Ratio NSFR from 100% to 95% to give the banks a bit more more wiggle room, and be less fixated purely on the numbers but take each individual bank’s situation into account.