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OtherStaff WriterMon 16 May 16

What’s happening in debt markets? Why ratios matter and the outlook for the good, the bad, and the ugly.

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In our last update, we talked about increased capital requirements and costs and how this affected the availability and cost of property funding. Since then, a number of other factors have also started to restrict funding for property. Some of these factors will have a short term effect, but others are likely to last longer.

Banks manage their loan exposures by a number of ratios and limits. A couple of key ones which affect property lending are (1) the ratio of development to investment limits and (2) the ratio of property to non-property limits.

APRA, which oversees the Australian banks, monitors these ratios closely.

A number of banks are close to their limits for development lending. For some, this is due to capital ratio issues which are being caused, in part, by capital tied up in Sydney and Melbourne apartments which are still to be completed.

Combined with concerns as to potential oversupply, this has resulted in restricted availability of development funding. Available funds are being allocated to existing customers but on much more conservative terms. The other ratio which is becoming relevant is the overall ratio of non-property to property lending. Property is being affected as much by its own growth as a lack of growth in the denominator, non-property lending.

In the non-property sector, there are few sectors which are growing, becoming relevant, or are expected to grow significantly. Lending to the resources sector is reducing and the outlook and loss provisioning is actually reducing capital availability. Tourism, whilst it is doing well as a sector, is not a big user of capital and rural lending is stable.

One of the biggest areas of non-property limits is residential mortgages. Over the past few years, APRA has intensified its scrutiny of the mortgage lending practices and risk profiles of bank’s exposures. Last week saw Westpac announce it was halting lending to non-residents. The increased scrutiny from APRA may limit growth in residential mortgage lending. As a key part of the non-property limits, this could limit growth in property limits for Australian banks.

Banks go through cycles where the focus is either revenue growth or return on equity (ROE). When revenue is in focus property lending is a way of generating quick revenue growth. We are now in a cycle where the focus is on ROE’s. As a result property lending is restricted as capital is deployed to higher returning parts of the Banks and costs come under more scrutiny. The banks’ focus on cost reductions is starting to affect a number of property teams through staffing freezes or reductions. At the same time, banks are facing resource constraints and frontline staff are being required to do more in terms of analysis of new applications and existing exposures.
What does this mean for borrowers?
In this environment, loans generally get allocated by funders into the good, the bad, and the ugly baskets. The good loans continue to get done at reasonable margins and with reasonable appetite from funders. The bad, that is, anything a higher degree of risk, can get done but take a lot more work and time to set with more limited demand, higher pricing, and/or increased covenanting. The ugly simply aren’t getting funding. There is no doubt it is getting tougher to get finance. However, the groups who are willing to put in the upfront work – and present their proposals the right way – will continue to get funding and do so at a time when the base rates are at historically low levels. CBRE believes these groups will be rewarded for their efforts as they will face less competition on acquisitions. CBRE assists borrowers by delivering a broader range of funding options from both banks and non-banks. For vendors, more complete due diligence packages, provision of indicative funding terms, and a detailed understanding of the buyer’s funding options and how to assist them in obtaining funding can dramatically improve sales outcomes.

Matt Lawrence is a Senior Director - Capital Advisors Debt and Structured Finance for CBRE based in Brisbane. 

OtherResidentialAustraliaFinanceOpinion
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Article originally posted at: https://theurbandeveloper.com/articles/whats-happening-in-debt-markets