Monday 14 October 2019

Central Bank warns offshore money raises boom-bust property cycle risks

'Financial stability' threat if investment funds 'sell off assets in times of stress' as non-bank backers put €18bn into commercial sector

Outlook: The ESRI’s Kieran McQuinn
Outlook: The ESRI’s Kieran McQuinn

Shawn Pogatchnik

The dominance of offshore money in Ireland's commercial property market - including retail sector landlords and so-called cuckoo funds snapping up entire apartment blocks - creates new risks they will import boom-bust cycles, sink house prices and weaken the banks, new research from the Central Bank shows.

The warning comes as two of the biggest property investors here since the crash, Green Reit and Starwood Capital, look to sell their vast holdings of mostly office blocks.

The Central Bank said foreign-financed funds are more vulnerable to negative shocks outside Ireland - and may be more tempted to dump Irish assets in a hurry to pursue easier profits elsewhere or to meet obligations at home.

"In general, the growing presence of non-bank investors to the Irish commercial real estate (CRE) market is welcome in terms of the diversification of funding sources," the report said. "However, it has the capacity to have a negative impact on financial stability. Real estate investment funds (Reifs) with high leverage or high liquidity mismatch may try to sell off their assets in times of stress. Funds with high leverage may be required to sell assets if the cost of debt rises; for example, if global risk is repriced."

The report provided the most detailed breakdown to date of institutional ownership of CRE. It found that Reifs and real estate investment trusts (Reits) mostly have financed their Irish acquisitions using equity or loans provided by shareholders or non-bank sources, with about half of the finance coming from overseas.

By the end of 2018, the report found, Reifs had amassed commercial property worth €18bn - dwarfing the €4bn held by insurance companies and the €3.1bn held by pension funds. Even Irish banks' commercial property loan books total significantly less at €12bn - much of it non-performing.

Reits, only in Ireland since 2013 and significantly funded from abroad, hold €3.8bn of property.

"A rise in market uncertainty or a change in global financing conditions, resulting in more favourable yield prospects abroad, may motivate foreign investors to remove their funds from CRE markets more quickly than domestic investors, increasing the volatility of the CRE cycle," the report said.

"A sudden stop or reversal in foreign investor demand would increase the probability of declines in CRE prices, which could be transmitted to domestic financial markets and the real economy through a number of channels," it said.

That would have potentially big knock-ons for Irish banks and households.

The emergence of big institutional investment funds and Reits as significant players in the housing market is relatively new, and is controversial, with cash-rich so-called cuckoo funds seen crowding out individual homebuyers in Dublin as house prices rise.

The ESRI think tank said the key to affordability is bringing down high land prices - including by tackling hoarding of development sites and land banks.

"The site tax is one area that need to be revisited… you need to need to look at whether that is being taxed aggressively enough in certain cases," Associate Research Professor at the ESRI Kieran McQuinn said.

"You are going to see this continued pressure on the rental side, people who cannot afford housing in the short- to medium-term," he said, adding, "If you can take away the speculative element and return from land prices, that should mean that land prices fall considerably."

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