The problems of real estate financing in

the post-crisis period in Slovakia

Koloman IvaničkaDaniela Špirková

Slovak economy

Slovak economy was strongly growing in the boom period, and after 2008 the growth was moderate except for 2009 (decline)

But certain level of maturity of real estate markets and saturation of demand especially in retail and office sector represent the challenge and risk for the new projects

Also the FDI investments have been very low after 2008 and invetment activities has declined

Eastern Europe - Real estate investments volume by country in year 2011

Eastern Europe - Investment volume by sector in year 2011

Austerity cuts and unemployment

Reduction of public budgets Lack of strong consumer base, which is holding back retailer

expansion plans –because of growing unemployment and reduced incomes of population

Large regional disparities between the West and East of Slovakia

Financial and liquidity problems

New wave of banking regulations Dominant position of foreign banks in the region – some

withdrawal of the funds from Slovakia, but stopped by Vienna initiative

Vienna innitiative – the pact to prevent Western European banks to withdraw the funds from the region (plus to allocate €30 bn for the economic developemnt of theSouthern and Easter Europe)

AIFM directive. AIFM is the abbreviation of Alternative Investment Fund Manager. The directive regulates the managers of funds. The Directive will impact European Union (EU) and non-EU AIFM, but also EU and non-EU domiciled Alternative Investment Funds (AIF), service providers to these funds and their investors.

Basel III agreements bring significant challenges to banks. It sets the liquidity coverage ratio standard (which is higher than it was before), it requires the dynamic analysis and granular reporting, and special consumer protection, which is quite difficult to realize. The over the-counter (OTC) reforms require that margin be held for trades that were previously uncovered and that Central Counterparty Clearing Houses (CCPs) maintain capital cushions (Ernst & Young, 2012b).

Solvency II. The aim is to provide better protection for insured and beneficiaries with simultaneous support of market stability, especially by higher quality of risks evaluation and effective allocation of capital.

Banking regulations

Real estate financing by banks

The banks are less enthusiastic about short-term prospects of real estate in Slovakia

Rising real estate risk premium Prevailing interest to finance the income generating

projects rather than the development projects The new development project have to be broken to

several smaller project for obtaining the funding

Real estate prices

Reduction of rental incomes Growing vacancy rates Reduced real estate prices Mortgage arrears Difficulties of developers to repay the debt

Non performing - loans

Non performing - loans

Office market

Vacancy in Bratislava. The overall vacancy rate for Bratislava has increased slightly from 12% in the previous quarter to 12.5% in Q4 2012. The lowest vacancy rates recorded in the fourth quarter of 2012 were in Bratislava 1 (10.6%), followed by Bratislava 3 (12.7%) and two districts with equal vacancy rates Bratislava 2 and 5 (13.4%). Prime monthly rents remained unchanged ranging from €13-16 m²/ month for City Centre office spaces

The current situation in Slovakia prime mortgage market is still strongly influenced by the ongoing global financial and economic crisis. Potential buyers of mortgage loans are afraid of borrowing in the current unstable situation. This happens despite the fact that the price of real estate has fallen dramatically and tha banks gradually reduced interest rates, so that today the mortgages are cheaper.

On the other hand, the banks compared to the period before 2009 behave in a more conservative and cautious ways. While during the boom period the mortgage loan-to-value ratio represented in some cases 100% and even up to 110%, currently the banks require the down payment from clients in the range from 10 to 30%.

Housing market – current situation in Slovakia

HOUSING MARKET in SLOVAKIA

The total volume of housing loans and mortgages since 2002 shows the annual increases in state loans granted by banks. Even in the crisis year of 2009 the total volume of loans grew.

Housing market in Slovakia – real estate price development

Housing market in Slovakia – interest rate comparison Eurozone vs. Slovakia

The share of Slovak banks in the mortgage market over the last decade is so far unchanged. The most important players remain to be General Credit Bank, Tatra banka and Slovak Savings Bank. Two leading banks - Tatra banka and General Credit Bank are holding majority share of Slovak mortgage market.

Banks‘ cautious approach was reflected in the analysis of the creditworthiness of the client (e.g., the income data are verified through cooperation with the Slovak Banking Credit Bureau and the Social Security Agency and there is also verification whether ID card serving for the identification of the client is not registered in the database of stolen documents). In addition not only traditional financial indicators are processed, but also other data, such as the assessment of demographic variables such as age, education, profession client are considered.

Mortgage market

Number of average annual net incomes needed to buy an apartment in SR

Over recent years, the direction and profile of investment into commercial property in Europe has been dominated by risk aversion and investor preference for prime properties in core markets. The lack of financing for stock that does not meet lenders’ more stringent criteria has also been playing a role, as have investors’ capital preservation instincts. We do not expect an imminent reversal in any of these drivers. However the polarised nature of the market presents substantial opportunities for opportunistic investors to generate value by repositioning non-prime assets through active asset management.

Source: Colliers International EMEA Office Report highlights North/South divide, London, April 2013

Market ripe for opportunistic investors

Opportunity for private equity companies and debt funds The falling property prices represent the interesting

opportunity for private equity companies and debt funds, which can earn up to 20% return on such transactions (the strategy may include investments in raw land, developemt and niche property sector)

However hasty sale of good quality assets, which further depress prices, may trigger the negative spiral, and the supervisory authorities try to counteract these tendencies by pushing more capital into the banks

In spite of theat it is expected that the power relations in European real estate markets will change and the private equity funds, insurance companies and othe investors will play the more important role

Opportunity for private equity companies and debt funds

At this moment it did not happen in Slovakia, but may happen in future to some extent. But such situation is more likely to happen in the countries with the high share of distressed property (Serbia, Romania, Hungary)

Yet the economic problems of CEE countries „tame the appetite“ of the debt funds to acquire the properties in these countires at present

Typical real estate financing structure

Source: IVG Research LAB 10/2012

The banks have returned to prudent lending. During the crisis the banks have suffered losses from the

credits provided to developers and from mortgages. No bank was however been willing to publish their losses from

the real estate lending, or number of defaulted credits. During the last two years the banks were willing to sign only

the limited number of the agreements with the developers. They mainly took care of the older contracts with the

developers, they either were changing the condition of the contracts or they were prolonging them.

In some cases they had exerted the pressure on the developers to sell their property for lower prices in order to minimize the losses. Overall the real estate funding was stagnating although the volume of the lending did not decline.

CONCLUSIONS

Perspective of real estate sector in CEE is to learn to move in the standard boundaries. Long-term plans, reasonable profits, quality and creativity to satisfy customer's project, and differentiation from the competition will be necessary. The banks are becoming more responsible and more conservative; they do not try to lose the money on too risky projects as it was often before.

The economies of the CEE countries are undergoing the new wave of the restructuring in order to reach macroeconomic equilibrium.

They are now introducing the new austerity measures and they are changing some elements of the fiscal systems. This will certainly influence the business environment in which the real sector operate in near future.

CONCLUSIONS

Thank you for your attention

Koloman Ivanička & Daniela Špirková koloman.ivanicka@stuba.sk daniela.spirkova@stuba.sk