This article is from the Australian Property Journal archive
THE Reserve Bank said it is not in the best interest of the property market to see a return to free-flowing credit and questions whether developers rely too much on debt.
In a speech to Property Council of Australia luncheon, deputy governor Ric Battellino said financing of the property sector became over-extended during the boom years, and that a period of adjustment was largely unavoidable.
He added that property-related loans accounted for a very significant share of the business lending undertaken by banks and other lenders and also tends to be among the most cyclical, rising strongly during the boom and contracting sharply and defaults can rise quickly.
According to the RBA, lending to the commercial property sector began to pick up noticeably from around 2004 and before it peaked just before the global financial crisis, it was growing by 27% per year. And the sample of 26 lenders found foreign-owned banks accounted the fastest growth through this period.
“With lending for commercial property growing significantly faster than other business lending, its share of total business lending increased from about one-quarter to around one-third.
“For the regional banks and foreign-owned banks, the ratio was considerably higher, in some cases close to half.
“Given this rise in the proportion of lending going to the property sector, it is perhaps not surprising that many banks now feel they are overweight to that sector and are reluctant to make new loans, while some are seeking to cut back,” he added.
Battellino said these loans also have tended to be among the most risky as was the case in the early 1990s and history repeated again during the GFC.
According to the RBA, the proportion of commercial property loans that are impaired has risen sharply since 2007, from less than 0.5% to around 6% compared to business loans in general, which has only risen to around 3%.
The banks that expanded their lending the fastest through the boom have since experienced the sharpest increase in impaired loans. For foreign-owned banks, about 15% of commercial property loans are impaired, compared with around 4% for the major Australian banks.
The impairment rate increased particularly sharply for loans to the retail and residential property sectors.
Battellino said the property sector is vulnerable to changes in the availability of credit because it operates with a relatively high level of gearing and low holdings of cash. Gearing of listed real estate companies has risen substantially over the past decade.
“It used to be the case that the sector had substantially lower gearing than the corporate sector in general, but the run-up in debt, followed by the fall in asset values, resulted in gearing of the sector reaching a peak of over 100% by late 2008, well above the corporate sector average.
“Similarly, cash holdings of corporations in the real estate sector are low compared with other corporates. Through the boom years, cash holdings of listed real estate companies fell to less than 2% of assets, compared with 6–8% elsewhere in the corporate sector,” he pointed out.
Battellino said whilst the RBA is not downplaying the difficulties firms are experiencing on accessing credit, he raises the question whether developers should rely less on debt.
Since the peak in early 2009, commercial property lending has decreased by about 10% led by foreign banks, which reduced their exposures by 35% since the peak. Loan limits have fallen more than outstandings, so that usage of lending facilities has increased to about 90%.
At the same time, funding through non-bank sources has also tightened. Commercial mortgage-backed securities, which at the peak in 2007 accounted for around 5% of total commercial property funding, have contracted by about two-thirds since then. The contraction in mortgage trusts and some other funds, entities that were substantial investors in these securities, helped to drive the decline.
“Cycles like the one we are going through seem to be endemic to the property sector and raise the question of whether, over the longer term, the financing model of the sector should shift towards more equity and less debt,” he continued.
“The equity raisings that have taken place have made an important contribution to reducing gearing levels, and the run-up in arrears on property loans may be coming to an end.
“The expected improvement in the economy over the next couple of years will be reflected in the commercial property market also. I think there are already some signs of this.
“That in turn should boost lenders’ willingness to make loans to the sector, though I don’t think it would be in anybody’s interest to return to the free-flowing credit of a few years ago,” Battellino concluded.
Australian Property Journal
