Big European Real Estate Refinancing Gap Just Got £28B Bigger

Refinancing real estate in the UK and mainland Europe is about to get £45B (€51B) harder.

The collapse in property valuations since 2019, and the affordability pressure landlords and investors face due to higher interest rates, have created a yawning €51B gap between the lending the real estate sector needs to refinance, and what is on offer over the next three years.

The data shows that the gap has widened by €32B (£28B) since September 2022, thanks to a much swifter decline in capital values than had been expected.

This is the conclusion of AEW research showing European real estate debt funding gap grew rapidly in Q4 2022. As much as €46B (£40B) of this widening gap was accounted for by collapsing capital values.

The European real estate debt funding gap is the shortfall between the original amount of secured debt originated in 2018-20 and the amount available for refinance at the loan maturity in the next three years across all sectors in Germany, the UK and France. 

Around 45% of the combined funding gap is related to German real estate, 33% to the UK and 22% to France. That puts the UK refinancing gap at £15B.

The firm said this widening is driven by capital value decreases that have resulted in higher loan to values, and higher interest rates pushing down interest coverage ratios.

The bad news is unlikely to end here. “Additional concerns on upcoming refinancings are triggered by all-in interest rates, which doubled in 2022 and reached 6.3% for the UK and 4% for Europe by year-end 2022. The impact of a prolonged period of higher interest rates must therefore now be factored in,” AEW said.

AEW calculated that an average of 50% of rental income will need to be allocated to cover interest payments.

“Lenders and borrowers will need to be creative in restructuring the capital stack to bridge this widened gap and reach sustainable LTV and ICR levels," AEW said in a statement. "This will require more than the usual maturity extensions, covenant waivers, cash traps and/or partial restructuring of existing loans before they can be refinanced, especially with hedging requirements. The luxury of lower interest rates and other fiscal responses such as quantitative easing … are unavailable this time around.”

The real estate asset manager concludes that this is likely to force a quicker work-out of upcoming loan maturities compared to the 2008-09 experience, since extending maturing loans without fixing the rate at higher swap rates is unlikely to be an option this time around.