Aareal Bank sees one in four US loans go into default

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Wiesbaden-based Aareal Bank, one of Germany's biggest property lenders, found itself grappling with the aftermath of a tumultuous 2023, dominated by the relentless storm of non-performing loans (NPLs) in the US office property sector.

The full-year report for 2023 highlights the damage done by the bank's exposure to the US property market, which saw Aareal make bad debt provisions of €510m, up from the previous year's €192m. This represented a rate of one in four US office loans going into default - €1bn of non-performing loans, out of a total US office portfolio of €4bn.

Alone in the fourth quarter, Aareal boosted its loan loss provisions eightfold to €179mn, compared with just €22mn in the same period a year earlier.

Aareal Bank's CEO, Jochen Klösges, unveiled a strategic plan to swiftly address the non-performing exposures. About €1 billion of the loan portfolio was categorized as non-performing, with half of this slated for resolution in the first quarter of 2024. The bank aimed to achieve this through a combination of property sales, loan sales, and restructuring, it said.

But he said that he was expecting more of its US loans to turn bad, although it had not yet been hit by new defaults in January or February. "Will the market turn around? It doesn't look like it," said Klösges at a press briefing. "2024 will remain challenging. We expect that the U.S. office market will stay in flux for longer," he said, adding that some U.S. offices had plunged 50% in value.

While the US office property sector faced headwinds, Aareal's other markets remained stable. Major European cities such as London, Paris, Brussels, and Warsaw continued to perform well. Klösges asserted that the challenges in the US market were not expected to directly impact Europe. The bank's diversified portfolio acted as a buffer against contagion, he said.

Cautious Optimism for 2024

Overall, the financial figures for 2023 revealed the impact of the storm. A consolidated operating profit of €149 million represented a decline from the previous year's €239 million, despite a statement in November confirming that it was on track to post an operating profit for the year of at least €240m. The lion's share of risk provisions, €360 million, was attributed to the US office property business, reflecting the severity of the challenges faced in this segment.

Looking ahead, Aareal Bank maintained a cautious outlook. Klösges acknowledged the persisting challenges in the US office property market, signaling that the environment was expected to remain challenging in 2024. The bank earmarked €350 million for loan loss provisions in 2024, reflecting what it said was a prudent approach to navigate the uncertainties.

The bank did not foresee the need for additional capital to weather the crisis, maintaining a core capital ratio of 19.4%. The selective approach to new business saw an increase from €8.9 billion to €10 billion in 2023. Aareal is owned by private equity groups Advent International and Centerbridge Partners, following a protracted takeover battle which was finalized last year.