Real estate non-bank lending to expand in Asia Pacific

Hong Kong, July 16, 2015 – Following the Global Financial Crisis (GFC), real estate bank lending in Asia Pacific significantly moderated due to key factors: international regulators implementing stricter capital requirements on bank lending such as the Basel III framework, and cooling measures imposed by domestic authorities to curb rapidly rising property prices.

These actions have subsequently reduced the accessibility of bank lending in effectively all major markets across the APAC region, leading investors and property companies to seek alternative sources of real estate funding in both the public and private debt markets.

CBRE’s latest Special Report, Asia Pacific Real Estate Debt Market – Tighter Regulation Brings Opportunities, provides an overview of the non-bank lending environment and identifies opportunities and challenges for non-bank lenders across the region.

While domestic bank lending still remains the predominant source of debt in many mature markets, increased lending selectiveness by banks across the board has heightened difficulties for numerous borrowers. Many players have hence turned to the public bond market as a source of alternative funding, which drove total bond issuance by listed property companies in Asia Pacific to US$33.9 billion in 2014, a four-fold increase from 2011. The growth has mainly taken place in China and Southeast Asian countries ex-Singapore, whereas bonds issued in mature markets such as Japan, Hong Kong and Singapore have been the most stable.

Average annual growth of bank lending to real estate[1] in Asia Pacific

Source: CBRE Research, CEIC and various central banks, June 2015

Private non-bank lenders to gain the most from funding gap

Nevertheless, the public bond market is generally only accessible to large, listed property groups. Consequently, borrowers including non-listed SME developers who are unable to issue bonds are fueling the demand for broader sources of debt financing which create opportunities for investors to cater to the demand. In response, 31% of Asia Pacific real estate investors have already secured a foothold in the private real estate debt market, according to CBRE’s 2015 Investor Intentions Survey.

Ada Choi, Senior Director, CBRE Research Asia Pacific, commented, “the reduction of real estate lending by banks and limitations inherent to public bond issuance have created the undeniable demand for a dynamic non-bank lending market in the region. Given the recent volatility in the Asian stock markets, it can be argued that debt investments can, at opportune moments, provide higher returns than equity in property, and hence has its merits as an alternative long-term investment vehicle.”

“Non-bank lenders have already embedded themselves into the region’s private real estate debt market, with real estate funds behind 42% of the region’s property debt investments and institutional investors making up 20%, according to the Asia Pacific Investor Intentions Survey 2015. Activities by these new lending sources have redefined the traditional layers of the capital debt structure in response to financing and liquidity demands of both development projects and standing investments across different Asia Pacific markets, while also aligning with lenders’ specific risk-adjusted investment strategies,” Ms Choi added.

Private lending brings prospects, involves risks in major Asia Pacific markets

Private real estate lenders looking to take advantage of the funding gap will find more opportunities in emerging Asia due to the strong pipeline of development activity, combined with tight credit lines from domestic banks on project financing. Despite improvements in China and India’s housing sectors, domestic banks remain wary of overexposure and default risks. This presents opportunities for foreign players to source attractive deals in residential project financing, which provides higher returns and flexibility on loan terms and options for equity stake conversion

Meanwhile, despite the dominance of domestic banks limiting the accessibility of non-bank lenders in mature markets like Japan, Singapore and Hong Kong, institutional investors are seeing increased demand from property syndicates in Australia to lock down long-term, low-interest loans in anticipation of impending rate hikes. Returns from such debt investments mirror those of core assets and match the stable return profile typically required by insurers and pension funds. Moreover, real estate funds have also managed to carve a niche in providing mezzanine financing to Australian developers to fill the capital stack, as banks, which have increased lending growth in commercial development over the last year, may be less willing to take on further growth as supply increases.

“The funding gap is more evident in countries with robust development pipelines constrained by formal lending institutions. On top of offering straight debt, private lenders operating in this opportunistic space can leverage evolving investment formats such as mezzanine financing which delivers higher yields, and preferred equity, which allows for future conversion into equity, to capture the upside investment potential of quality projects and assets in emerging markets. That said, Australia stands out amongst regional mature markets as institutional investors can maximize the significant pool of long-tenor commercial borrowers in a low-risk and transparent environment, matching lenders’ long-term liability periods and providing a hedge against equity price volatility,” Nick Crockett, Executive Director, Capital Advisors Asia Pacific commented.

The non-bank lending environment in Asia Pacific, while profitable and poised to grow, still involves significant challenges in navigating and managing execution and administrative inefficiencies in emerging markets.

“New entrants into the debt market would be best to seek the knowledge and market expertise of real estate debt and structured finance service providers in assisting to source and structure prudent offshore loan opportunities, as well as to set up tripartite agreements with senior lenders in the case of mezzanine loan providers. Apart from advising on varying licensing requirements across domestic markets, qualified service providers can likewise provide guidance in navigating country-specific challenges such as the absence of legal protection mechanisms for offshore junior lenders in countries like China and the lack of transparency in the property market in India,” Mr Crockett added.

With full implementation of Basel III in 2019 expected to induce further tightening, and the low level of saturation of the Asia Pacific real estate debt market relative to the US and, CBRE believes that there is more room for the region’s real estate debt fund structures to evolve and ample opportunity for the pool of lenders to further deepen.

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