By Sara Seddon Kilbinger, Senior Reporter, REFIRE
Banks’ hesitance and rising interest rates stoking expectations
Demand for alternative finance is on the rise as many traditional lenders tighten their belts, according to the latest “Mezzanine Report” by FAP, the Berlin-headquartered independent advisory company specialized in raising and structuring capital for real estate investments and project developments in Germany.
Rising inflation and interest rates against a backdrop of high building costs and lack of materials is creating immense challenges which are putting a dampener on the overall real estate market, according to the subordinated capital providers surveyed by FAP for their eighth report. Nonetheless, 53% of those surveyed expect an uptick in demand for alternative financing solutions, building on the existing increase in interest due to the traditional financing channels becoming harder to access.
‘The numbers reflect the industry’s hesitation in the current market environment,’ said Hanno Kowalski, managing partner at FAP Invest. ‘Investors are biding their time and holding back on new investments. At the same time, the current situation is creating a lot of opportunities for subordinated capital providers because not investing at all is not an option either. Banks’ hesitance and the rising interest rate level are stoking expectations. We are thus expecting a significant rise in new business over the coming years.’
FAP counted 159 capital providers active in the subordinated bracket in Germany, an increase of 4 providers, y-on-y. The number of institutional investors lending directly fell again, whilst the number of debt funds increased. In total, 55 market participants took part in the survey, providing €5.5 billion over the period under review (down from €6.1 billion in 2021).
Resi remains first choice
Predictably, the residential sector remains the number one choice for lenders - including outside A and B cities - who deem the asset class ‘crisis proof’. However, loans for development projects are still very hard to obtain, although the trend towards larger tickets continues, as does the rising demand for whole-loan solutions.
‘In the past year, almost every project was financeable, but the tide has turned,’ warned Kim Jana Hesse, head of Capital Partners at FAP Finance. ‘The willingness to finance a development with any sort of question mark attached tends towards zero. Only professional projects and players have a chance these days. Pre-letting quotas, the equity base of the borrower as well as the content of contractor agreements, are gaining in importance.’
The share of subordinated capital providers only providing financing for existing buildings rose by 5% y-on-y to 23%. After resi, the second most attractive asset class is offices, on which 91% of those surveyed will lend, down slightly from 95% last year. And as COVID restrictions become less commonplace, more lenders are turning their eye to hotels again, although there is a clear preference for leisure over business hotels.
The average overall interest rate for financing existing buildings stands at 10.33%, a slight increase on last year’s 9.75%, according to the report. For mezzanine loans, it ranges from 7% to 15%, broadly the same as last year. Project development loans are typically between 9% and 15%, also about the same as in 2021.
Whole-loan solutions plugging gap left by classic loans
Interestingly, whole-loan solutions are stepping in to plug the gap left by the loss of classic bank loans, especially given that rising interest rates are narrowing the spread between the two financing options. For whole loans, capital providers typically expect an LTV ratio of between 70% and 75%. Lenders are also teaming up, with club deals between senior lenders becoming more popular. Subordinated capital providers and banks are also working together. The joint loan provides for an attractive blended rate for the borrower.
If the ongoing war in the Ukraine and Covid-19 could be removed from the picture, ESG would be the dominant theme in the industry, according to those surveyed. Not only are new regulatory initiatives advancing the sustainability of investments but ESG is starting to impact more heavily on investment decisions.
‘We are seeing more and more Article 8 and Article 9 funds on the market, with the clear goal of mapping out a portfolio of taxonomy-compliant assets,’ said Kowalski. ‘In the future, the only projects financeable will be those that conform to strict ESG standards.’
