Experts: Lots of Opportunities for U.S. Investors in European Debt

Southern Spain.
Southern Spain.

When comparing the re-emergence of Europe’s real estate market with how real estate has recovered in the United States, investors and analysts speaking to The Mortgage Observer often pointed out, to use a baseball metaphor, that Europe today is barely in the first inning. Of course, this metaphor would hardly be appreciated in Europe. Nonetheless, it is fitting, given that even overseas, the game is increasingly an all-American one.

Regulatory capital requirements imposed by the European Union as well as troubled balances are pushing European banks to sell their portfolios of loans while shrinking their real estate lending capacity. The environment—which still looks much like that of the U.S. in 2009-2010—is ideal for American lenders willing to replace the European banks and for American private equity firms and hedge funds taking advantage of the opportunities in the nonperforming loans market.

In 2013, the contraction of the euro zone will affect NPLs, which are expected to reach a euro-era high of 932 billion euros during the year, amounting to 7.6 percent of a total of 12.2 trillion euros in loans, according to an Ernst & Young report. And according to Morgan Stanley, European banks need to sell or refinance 700 billion euros’ worth of NPLs to meet regulatory capital requirements.

According to data from Real Capital Analytics, 84 percent of the buyers of nonperforming loan portfolios in Europe are from the U.S. “It has been predominantly U.S. [investors] acquiring these portfolios,” said Joseph Kelly, a director of market analysis for the EMEA region at RCA. He added that this is “mainly because the size of these deals is so significant, and the expertise required to work them out has been very suitable toward the large U.S. opportunity funds that have both the capital resources and the expertise to take down these loans or these loan portfolios.”

At the beginning of 2013, a Cushman & Wakefield report forecast over 25 billion euros of CRE loan portfolio and real estate-owned sales for the year. Recently, Michael Lindsay, head of corporate finance at Cushman & Wakefield, said that those expectations will be exceeded. “There has probably been a little bit an acceleration relative to what we have expected,” he told The Mortgage Observer.

So far, U.K., Irish and German lenders such as RBS, Lloyds Banking Group and Commerzbank have offered the bulk of the opportunities for American investors. The most active buyers of distressed loans and properties have been private equity firms such as Blackstone Group, Cerberus Capital Management, Lone Star Funds, Kennedy Wilson and Starwood Capital Group.

All over Europe, the competition for distressed real estate is mainly among American teams. There have been many examples just in the past few months. In May 2013, Cerberus outbid Apollo Global Management and Kennedy Wilson to win a Lloyds £325 million ($498.8 million) portfolio of underperforming commercial property loans secured against 180 properties in secondary locations throughout the U.K.

Also in May, with an offer of 306 million euros ($405 million) in cash, Kennedy Wilson surpassed bids from Northwood Investors and the U.K. company London & Regional Properties to win a former Treasury Holdings portfolio of 16 commercial properties in Ireland.

Recently, the Irish government’s “bad bank,” National Asset Management Agency, which was created to acquire property development loans from Irish banks and liquidate them, announced a deal with Starwood Capital Group for an 810 million euro ($1.07 billion) loan portfolio. Other leading bidders were California-based PIMCO and the Swiss private equity firm Reuben Brothers. In the end, the portfolio, known as Project Aspen, went to a new joint-venture entity 80 percent owned by a consortium led by Starwood and 20 percent owned by NAMA. Starwood is “expected to only pay 22 percent of outstanding balances,” according to RCA.

Several U.S. investors have done business with NAMA. “We have bought a number of assets from NAMA,” said Adam Schwartz, a managing director and head of the U.S./Europe real estate group at Angelo, Gordon & Co. The firm has acquired approximately $500 million in European assets in the last few years but has focused only on the acquisition of single assets that needed to be repositioned, opting not to bid on large portfolios, Mr. Schwartz said. Still, he added, opportunities are really everywhere.

“Prices are down significantly, over 25 percent,” Mr. Schwartz  said. “There is a lot of distress among the property owners and among lenders. And you can buy real estate at very attractive values today because there is a lot of illiquidity, similar to the U.S. in 2009, that is creating buying opportunities.”

In Spain, investors are currently weighing opportunities in that country’s distressed real estate market. The bursting of the property bubble in Spain has led to one of the largest exposures to NPLs, with about 190 billion euros ($251 billion) in troubled loans, according to Ernst & Young. Last year, the Spanish government set up the “bad bank” SAREB (Sociedad de Gestión de Activos Inmobiliarios Procedentes de la Reestructuración Bancaria) to acquire and liquidate 90 billion euros ($116 billion) of distressed real estate assets. The country, though, is among the markets where “political and economical uncertainty creates risks that are too large for some investors to stomach,” Mr. Schwartz pointed out.

SAREB sold a total of 550 homes between February and May of 2013. Currently, it has “another 800 operations which are pending closing and has received preliminary offers on 2,200 other properties,” according to a statement from the bank, which is preparing to sell its first portfolio of real estate—estimated to be worth 200 million euros ($265 million). SAREB is marketing a pool of housing in Seville and Valencia. Investors can bid until July 17, 2013. “We’re working to close the sale with international investors,” a SAREB spokesperson told The Mortgage Observer, “but we can’t give you details in advance.” Apollo, Colony Capital, Centerbridge Partners and Cerberus are rumored to be among the interested investors. “The jury is out at the moment,” said Cushman & Wakefield’s Mr. Lindsay. “At this stage, there isn’t enough evidence of transactions completing to see if it will be a big opportunity. Potentially it should be, but it obviously depends on the pricing at which SAREB feels able to trade, in the same way as NAMA.”

In Spain, RCA’s Mr. Kelly added, “there is a similar if not greater level of distressed [properties than in Ireland], so there is no reason why we cannot see the same activity, if not greater.” Much will depend on the incentives provided to investors, he pointed out. “The Irish government lowered the stamp duty quite dramatically. It created a capital gains tax freeze for buyers coming into the market as well as other government incentives to get the market going again,” Mr. Kelly said. “So maybe other governments like Spain should be considering incentives like that for these investors.”

“There’s a time when you move and you act, so you head toward resolving the problem,” agreed Bliss Morris, CEO of the loan sale adviser First Financial Network, which may soon be engaged to prepare several portfolios for sale in Southern Europe.

If Southern Europe still remains a field to be explored, U.S. real estate lenders are bullish on their opportunities in Northern European markets, which are perceived as less risky. “There is a real appetite from U.S. lenders,” said Darren Davey, managing director of London-based commercial mortgage special servicer Solutus Advisors. European banks have to increase their core Tier 1 capital ratio and are shrinking their lending activity. “Lending to real estate has become less and less attractive for European banks,” Mr. Davey added.

“Banks globally have tended to become more focused on their domestic markets,” said Mr. Lindsay. “In the last few years, we have seen increased activity from American players. Some of the insurance companies, like Pricoa [the international commercial mortgage lending business of Prudential Financial] and MetLife, have become more active in the U.K.”

“Compared to banks, life insurance lenders naturally take a longer view of real estate, and we are a good fit for [European] owners who take the same long-term view,” said Drew Abernethy, head of Pricoa’s European originations. “But even compared to probably most European lenders, we are able to offer more flexibility.”

For 2013, Prudential has up to $1.3 billion available for long-term, fixed-rate senior debt transactions in Europe. Most recently, it provided a seven-year, $73 million loan on an office property in the Canary Wharf area of London, as well as its first in continental Europe—a $72 million loan for six warehouse properties spread throughout the Netherlands.

Among U.S. banks, Wells Fargo is expanding its U.K. activities. The bank has broadened its U.K. commercial property lending, and most recently, in partnership with Lone Star Funds, it entered exclusive negotiations to acquire Eurohypo’s £4 billion ($6.24 billion) U.K. commercial property loan book from Commerzbank. “Commerzbank is currently involved in intensive discussions regarding the sale of a major portion of its commercial real estate finance portfolio in the United Kingdom,” a spokesperson for the bank confirmed.

In Europe, banks “are getting a good margin, a good coupon, higher than they would get for the same collateral in the U.S.” Mr. Davey added. “Europe is attractive from a lending perspective.” So, on overseas fields, the game for U.S. investors has yet to be completed.

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