European banks have been selling their bad real-estate loans at a record-breaking speed and private equity firms have been keen to snatch them. Although there’s been interest from many private equity firms, the biggest winners seem to be US-based firms.
The Wall Street Journal reported on Wednesday afternoon these bad real-estate loans have helped grow Europe’s loan firms at staggering speeds. The article pointed out the example of Mount Street Loan Solutions LLP, which has managed to grow from employing five people to 30 employees in just two years. The company’s director, Jonathan Banks, told the newspaper, “This is a very good to time to be doing what we’re doing [sic]”.
For the European banks, the selling of bad debt is part of the effort to clean up the balance sheets. The tougher regulator rules have warned many banks of the large amounts of bad real-estate debts and banks have been obliged to shed it off.
Plenty of Big Loans to Sell
European banks are sitting on a large number of these bad loans and have already sold off record-breaking numbers. According to CBRE Capital Advisor, a broker company, the sale of loan portfolios increased by 133% in 2014. The total amount of loans sold stood at €49 billion at the end of the year.
The Financial Times reported at the start of the week that the banks have around €264 billion of “non-core” real-estate loans still to be sold in October, with almost 40% of it remaining inside Spanish banks. Banks in Spain have been too slow to sell their bad real-estate loans, according to many experts, even though last year saw the country almost double its efforts to shed off bad loans.
According to the Irish Times, the UK and the Irish banks made the most number of deals, with nearly two-thirds of deals made by banks from these countries. The UK also has to be active on the matter, as almost half of the bad loans are against properties in either the UK or Germany.
The worrying fact for many analyst lies in the amount of pre-crisis loans still held by the banks. These loans were much to blame for the financial crisis in 2008 and nearly quarter of the loans bank still own are from the pre-crisis era. Many of these loans are also maturing in 2017, which means borrowers need to find a way to refinance the loans.
It is expected that the trend continues to 2015 and the banks will most likely sell close to the same number of loans. European Central Bank continues to encourage the sales and the regulatory checks on banks will remain tough.
Private Equity Firms Get Interested
Private equity has shown great interest towards these loans, as the firms “pay loan servicing companies to analyse the portfolios, collect cash from borrowers and take on other administrative work”.
The interest in bad loans has also woken up the US-based private equity giants such as Blackstone Group and Lone Star Funds. In fact, US-based firms participated in 81% of distressed-loan transactions in Europe in 2014, according to data by CBRE Group.
Among the biggest deals of the year, was the June deal between the German lender Commerzbank AG and the private equity firm Lone Star and JP Morgan Chase. The deal which was worth €3.5 billion saw the German lender sell its portfolio of Spanish property loans.
Furthermore, it seems the private equity firms aren’t just interested in the bad real-estate loan portfolios. The firms are also buying the loan servicing firms that help them acquire the deals. The most recent example is the buyout deal between private equity firms and the UK-based Acenden Mortgage Servicing Solutions. The firms, Blackstone Group and TPG, bought the company that manages nearly £5.4 billion worth of loans.
In a bigger deal, Lone Star closed a deal with Kutxabank, a Spanish loan servicing platform, in December last year. The deal was worth €930 million.
On top of this, firms such as KKR have looked into distressed debt as a measure to diversify its investments and to focus less on pure buyouts. According to a previous Financial Times article, the firm has been able to attract $2 billion for a fund that purely focuses on investing in distressed companies. Many analysts believe more private equity firms may follow a similar tactic.
Risks on the Horizon
But many experts warn that the current deal making could prove to be very problematic. Market Watch argued that private equity firms buying off the bad loans “doesn’t necessarily resolve the problem of the region’s debt overhang”.
Edward Daubeney, head of debt advisory at property broker DTZ, pointed out to the Wall Street Journal that, “We shouldn’t forget that although this deleveraging is positive, the debt isn’t being repaid”.
Furthermore, some analysts are worried that European banks are shedding off their assets too fast, leaving them in a position of diminished assets. But for investment companies this has been good news, as their asset values have been increasing in the past few years.
The Cyclical Nature of the Sector
The real estate sector is known for its cyclical nature and many investors need to be careful with this aspect of the industry. For some of the loan servicing companies the times are perfect at the moment, but the situation could change in a heartbeat. Bruce Nelson, the president of the real-estate service Situs Europe, summed it up by telling the Wall Street Journal, “The one thing I’ve learned: enjoy it while you can.”
But for private equity firms, especially those based in the US, the falling euro makes buying these loans ever more lucrative. The current turmoil in Greece will also mean that Greek asset prices are up for grabs and many private equity firms could well become more interested in these assets in the future, according to the Daily Reckoning Australia.
The year has started with a number of private equity deals in real-estate and it wouldn’t be a surprise if 2015 will see more banks get rid off their bad loans, with private equity firms as the main buyers.