Wednesday 22 November 2017

Property market needs a reformed banking system

Paul McNeive

The Anglo Tapes bring a renewed focus on the banking and economic collapse. My niggling fear is that unless the regulators get their act together, this could happen again. It is the very importance of having a banking system that forced the bank guarantee, but if bankers cannot be trusted to act sensibly then proper regulation is the only alternative.

Ironically, Anglo-Irish were far from the worst offender in terms of having a decent system for valuing property loan proposals. But how Anglo could have allowed 80pc of their loanbook to be in one sector (property) and almost 30pc of that in the riskiest sector (land and development) is extraordinary. Anglo had become so large in the market that to actually execute their own strategy of reducing their exposure to property was going to weaken many of their own clients and accelerate a collapse.

But whilst Anglo were quietly hoping to reduce their property exposure, the other banks couldn't take being embarrassed by Anglo's profits any longer and were ramping up their property lending like there was no tomorrow.

I attended a seminar in 2004 where the guest speaker was Peter Straarup, then chief executive of Danske Bank. He was in Ireland to announce Danske's acquisition of National Irish Bank and Northern Bank for €1.4bn. Mr Straarup said that having worked through the Scandinavian banking collapse he was aware of the danger of buying into a hot Irish economy. There was an intake of breath when he said that after years of analysing the Scandinavian economic and property collapse, they had come to the conclusion that it had been caused by the banks and their bad lending.

Yet even with that level of awareness, Danske went on to lose €3.5bn over the last few years of the boom. Just as Danske didn't follow their instincts, most banks abandoned their core values of prudent lending. Some either did not bother getting valuations for loans of hundreds of millions of euro – or ignored the valuations.

It was at the middle management levels that the systematic assessment of property loans continued, with 'red-book' valuations routinely sought. So a company buying an office building on a business park for €3m would see that loan proposal thoroughly assessed. However as the banks chased bigger deals, the developer of the scheme would have had a €350m loan to buy the site and build the units approved in days, on the strength of his track record and other loans from the bank.

Another factor contributing to the explosion in land values was the overturning of a fundamental of valuation known as the 'quantum discount'. Traditionally, if 10 acres of land was worth €100,000 per acre, then to buy two or three acres of it would normally cost, say, €130,000 per acre.

However during the boom developers were so profitable that they shied away from smaller sites and chased the bigger opportunities. Thus we reached a stage where the larger the site, the more it made per acre.

The economy and the property market need bank lending to operate. As the market stabilises there are signs that lending into property is accelerating. Speaking with agents, the view is that bank lending is limited but improving.

Most private Irish investors present as cash buyers but then approach banks after signing contracts. Bank of Ireland is mentioned as most active in the market.

Another indicator comes from Robert Hoban, director of auctions at Allsop Space, who have sold over 1,000 properties. At their first sale in 2011, 15pc of purchasers had bank finance, but that proportion is now up to 48pc. Allsop Space auction another 121 properties today.

The European Council's decision to put larger deposits at risk in the next bank failure has rattled depositors and I predict a new flush of cash in to the property market this autumn. The banks are on very safe ground at loan-to-value ratios of 50-60pc and will have to do better to secure prime deals.

Banks chase profits, and regulation is the only safeguard. Bizarrely, a building society must get a valuation when granting a mortgage for a house, but a bank is not required to get a 'red book' independent valuation for a commercial property loan.

Banks should also start employing more chartered surveyors – and listening to them


A medieval experience

I spoke at a conference at the fascinating Barberstown Castle, Straffan, Co Kildare last week. The castle, which dates from 1288, was home to Eric Clapton when bought by the Healy family. You can dine in the original castle, and they have launched a "medieval banquet" for the corporate market. The MC for the show is the ghost of Nicholas Barby who built the castle. Worth visiting!

Upward only surprise

Speaking with some interested parties recently, I realised they assumed that there was a statutory basis for the 'upward only' review clause. In fact, landlord and tenant legislation does not stipulate 'upward only' reviews at all. The reviews simply followed UK market practice. They were to protect landlords against inflation and were agreed at a time when real deflation was not envisaged.

Irish Independent

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