APRA executive Charles Littrell says the banking regulator is increasing scrutiny of commercial real estate lending. Nic Walker
The prudential regulator is “dialling up” its scrutiny of bank lending to commercial real estate projects, an area that regulators have pinpointed as being the most exposed to a deterioration in economic conditions.
Banking regulators are concerned that commercial property loans are typically the first ones to go bad in a downturn, said the Australian Prudential Regulation Authority’s executive general manager of supervision and support Charles Littrell.
There is a lot of conventional work at our end focusing on sound lending – and in fact, we are now dialling up our systemic supervisory focus on commercial real estate,” Mr Littrell told a lunch time event in Sydney on Thursday.
Australian banks have tightened lending standards to non-residents, while some banks have stopped lending to foreign buyers of commercial developments such as inner-city apartments.
Inner-city apartment prices could be affected by new properties coming on to the market as off-the-plan buyers struggle to settle on their purchases, ratings agency Standard & Poor’s said earlier in June, highlighting fears of an oversupply of apartments in Melbourne and Brisbane and “settlement risk” caused by tougher bank lending rules.
Banks apply loan to value (LVR) ratios to commercial property loans and typically require more equity for commercial real estate than residential real estate. However, banks or regulators do not report data on commercial LVRs, which are granular and depend on the level of risk in a project.
Growing bank exposure to commercial real estate was identified as a risk for the stability of the financial system last year by the Reserve Bank of Australia.
On Thursday, Luci Ellis, the head of stability at the RBA, said commercial real estate lending can become a “vector of stress” during a crisis.
“While it is true that we tend to see housing booms and booms in housing prices ahead of banking crises, it is usually not the mortgage book that is the issue that actually brings the banks down,” she told the same panel, at an event hosted by the Centre for International Finance and Regulation.
“The thing that has tended to be the casual agent in banking crises…[has been] the property developers [and] commercial real estate – these are the vectors of stress that actually cause a problem for the banking system historically.”
In its financial stability review last October, the RBA warned banks to monitor growing risks in commercial real estate lending books. “Given the current risks of oversupply in some inner-city markets…banks will need to remain vigilant in assessing the risks surrounding property development loans to ensure that this lending is prudent and appropriately covered by both capital and provisions,” the RBA said.
APRA included commercial real estate exposures in its stress tests of the banking sector conducted last year.
Credit Suisse analyst Jarrod Martin said on Thursday that sharp rates of growth in bank lending to commercial rate estate (CRE) was one of the key risks for the Australian banking system.
“Notwithstanding relatively low impairment rates currently we see CRE as an inherently risky credit category,” Mr Martin said.
However, Credit Suisse said the growth in CRE lending appears to be driven by the branches of foreign banks in Australia. During the first half of 2016, major bank commercial real estate asset quality actually improved.
The RBA said last October the major banks had “steadily grown their commercial property exposures by more than 5 per cent a year” since 2012. It also pointed to growth in undrawn construction loans suggesting “further increases in exposures in the near term”.
The RBA said commercial property exposures constitute around one-quarter of the stock of business credit outstanding – but have accounted for around two-fifths of the growth in business credit over the past two years.
Of the major Australian banks, National Australia Bank has the highest exposure to commercial real estate, which represents 11.6 per cent of its total group exposures, according to Credit Suisse.
An estimated 44,784 apartments are due for completion and settlement this calendar year across Sydney, Melbourne and Brisbane, up almost a quarter on last year’s 36,486, consultancy MacroPlan Dimasi said earlier this month. Next year, that is expected to jump to 52,920.
