Special Comment Q3 2022: How to optimise leverage on your assets in a rising interest rate environment

It is time for German asset owners to start sorting out their financing if they have loans that expire in the next 12 months.

The German average bank lending rate charged on business loans by commercial banks has reached a 10-year high with 1.95% (compared to Netherlands 0.35%, Spain 1.1%)., further stress tests are expected The 5-year Euribor swaps reached 2.26% in September 2022 (compared to -0.3 in Sept 2021), putting pressure on interest rate cover ratios. But despite the changes in interest rates, we are still waiting for property valuers to adjust property yields.

Regional loan pricing advantage

At FinLoop we believe optimising financing structures and loan agreements will be key to many borrowers in order to keep providing a positive cash flow to their investors. Investors know that it is crucial that the debt is accretive to the property IRR.

The regional loan pricing advantage - Local lenders offer better rates on smaller assets

Bank lending appetite has declined substantially since Q2 2022, best rates are available to borrowers who can connect with small regional lenders (i.e. Sparkassen, Volksbanken) and can match banks' risk appetite with the right local asset. Nicole Luxpoints out that FinLoop's latest survey has shown pricing discounts of 60 – 80 basis points for borrowers finding local lenders versus large portfolio financing, which will make a crucial improvement to ICR levels

Illustration of property with 3.1% yield @@ 60% LTV leverage

Loan pricing penalty for multi-asset portfolios

Portfolios containing many properties across different regions will often be penalised with higher lending costs by larger lenders with the argument of intensive loan underwriting.

Long-term rates offer better terms on a relative basis

Local lenders know their region and support local economic growth. At the same time local lenders will be willing to provide longer term financing. However, as Thomas Schneider Co-Founder of Finloop notes "many real estate investors struggle to find and connect with these local lenders. It is certainly a large untapped source of available financing. Finloop relationship managers speak daily with local lenders looking to lend in their region and are helping borrowers to improve their financing terms."

While we are still seeing many borrowers looking to roll debt forward on a shorter-term basis, FinLoop's view is that interest rates will remain at higher levels for the next 3 - 5 years and this level has not been reached yet. Further increases are expected for the next 12 months. Hence, securing a 7 - 10 year financing makes sense now. The pricing differential between the 3, 5 and 10 -year swap rates show little difference between them.

Short-term versus long-term Euribor (Property at 3.1% yield @@60% LTV)

If you are interested to find out how to optimise your portfolio financing, FinLoop relationship managers are happy to help you getting started.

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