Real Estate Debt

The German construction and real estate markets are still seeing very dynamic growth. Even if new calculations are necessitated by recent effects on the interest rate side, related to inflation or construction costs, the consistently strong demand for housing space is a given fact – not least because of sustained immigration most of all into metropolitan regions. In addition to new residential construction, the total market as a whole also includes numerous other projects, including new commercial buildings and special real estate along with renovation and modernization projects, of course, ensuring that project developers, the construction industry, and the real estate sector in general will continue to see high levels of capacity utilization. At the national and European levels, prices and qualities are influenced in particular by heightened ESG and CO2 regulations. These tend to cause further price increases and, as a result, rising investment volumes. In the past, real estate investors’ financing needs were primarily met by conventional Bank loans (collateral loans). Whether the growing demand for financing arising from institutional and private investors can continue to be fully satisfied from this resource is doubtful. Rising interest rates, higher loss allowances at banks, and tighter eligibility criteria make utilizing this conventional financing source appear more difficult. Adjustments to financing volumes and financing interest rates tend to diminish profitability and liquidity. Players in the real estate markets are therefore bound to also tap into alternative sources of financing in order to satisfy their ongoing high investment and financing demand. A real estate investment can be financed using a business’s existing or internally generated funds (internal financing) or externally sourced, in other words, contributed by a third party (external financing). Depending on the type and accounting method, these funds are classified as either equity or debt. Banks are not the only source of capital. Private debt is an umbrella term encompassing debt funds that are predominantly provided by private sector institutional investors such as pension funds, insurance companies, funds, and investment foundations outside the banking sector. The numerous tradable risk and opportunity positions – especially of mezzanine capital – appeal on the lender side to a wider range of investors and can contribute to an efficient capital structure. In order to provide risk diversification, capital is generally provided or refinanced through funds or pools, thus indirectly through insurance companies and pension funds, for example. Overall, the non-bank financial institutions market is growing very rapidly. This refers to financial enterprises that offer financial services typical for banks such as lending, risk pooling, etc., but do not hold a full banking license themselves and that are, therefore, not subject to national or international banking supervision. At the same time, though, this market is much less transparent than the heavily regulated banking sector, for instance. This study introduces the key drivers of the alternative financing market, particularly real estate private debt. Various financing options are compared, and the respective market potentials analyzed. Additionally, the main market volumes and developments in capital demand, in the banking sector and with other financing variables are presented. This brings slightly more transparency into a complex market segment, both for real estate investors with capital needs as well as for capital investors as potential financing providers. 

Prof. Dr. Steffen Metzner, Head of Research, Empira Group