Non-Bank Lenders Thriving in Australian Commercial Property Market Amidst Bank Pullback
Private credit lenders are making significant strides in the Australian commercial property market as traditional banks reduce their higher-risk lending activities due to the impact of elevated interest rates. This shift has opened up opportunities for borrowers who are now seeking alternative sources of funding.
The availability of funds for commercial property deals is on the rise, as investors like pension funds, sovereign wealth funds, and insurance firms are in search of substantial returns that are becoming scarce in today’s equity markets. These investors are particularly interested in the real estate sector, which has been discounted due to various challenges.
Qualitas, an Australian real estate specialist with backing from the Abu Dhabi Investment Authority, has nearly doubled its funds under management to A$8 billion ($5.07 billion) since mid-2022, with a significant portion of this increase occurring since June. Similarly, U.S.-based PGIM Real Estate intends to deploy an additional $1 billion in the country over the next few years, according to Steve Bulloch, the firm’s head of Australian real estate.
Non-bank lenders have been steadily growing their presence in the market, although they still represent a relatively small portion of Australia’s financial assets, amounting to roughly 5% in 2022, compared to the International Monetary Fund’s global estimate of 50%. Nonetheless, these lenders have expanded their operations, reaching more than A$600 billion in assets last year, including lenders focused on retail credit. Now, they are further expanding into residential and commercial construction as banks reduce lending or exit these sectors, as reported by the Reserve Bank of Australia (RBA) in March.
Borrowers can expect attractive returns ranging from 9% to 11%, backed by the security of loans tied to tangible assets such as condos or warehouses. These loans often come with a 30% to 40% equity buffer, offering additional protection for lenders. Paul Notaras, the executive director at Barings Real Estate Australia, highlights the higher costs associated with borrowing from non-bank lenders, with the Reserve Bank of Australia citing a spread of approximately 200 basis points over major bank loans for various business loan types.
However, despite the increased costs, non-bank lenders are seen as a valuable source of credit as traditional banks have become more cautious in lending to sectors historically considered high-risk, such as construction. The challenges faced by the construction industry are evident, with the highest number of insolvencies recorded last financial year since 2013, as builders grapple with rising costs and fixed-price contracts.
Data from the prudential regulator shows that new commercial property lending by the four major banks has only seen modest growth, averaging 1% per quarter since June 2022, levels last seen during the pandemic. This lending has mainly been focused on offices and residential contracting. Major banks now prioritize blue-chip property companies due to increased prudential scrutiny and reduced risk appetite. Andrew Schwartz, co-founder of Qualitas, explains that banks have tightened their loan-to-value ratios and narrowed the types of borrowers they are willing to work with, making it more challenging for borrowers to secure financing and driving them towards alternative lenders.
Banks remain cautious about lending more than 40% to 45% against the value of build-to-rent residential projects. In contrast, private lenders are willing to go as high as 65%, according to Barings’ Notaras. The issuance of property-related bonds has also hit record lows, hindering many unrated mid-market borrowers from accessing this form of financing.
Despite the challenges facing certain segments, such as office and retail spaces, non-bank lenders are drawn to companies contributing to Australia’s undersupplied residential market, especially in the emerging build-to-rent sector, as well as the resilient warehouse and industrial property market. For instance, Qualitas and the Abu Dhabi Investment Authority have formed a A$1.45 billion partnership focused on the residential sector.
While some experts have raised concerns about the increased costs associated with non-bank lending, the growing presence of these lenders in the Australian commercial property market has provided borrowers with much-needed credit at a time when traditional banks have scaled back their activities in higher-risk sectors. With institutional investors increasingly seeking to diversify their portfolios and take advantage of the lucrative returns available in real estate, the role of non-bank lenders is set to continue expanding in the Australian market.
