Banks in Central and Eastern Europe are increasingly focusing their policies on sustainable development, conforming their activities to current legal regulations and market expectations in the ESG sector. This is resulting in changes to credit policies, according to a study by KPMG titled “Property Lending Barometer 2023”. High interest rates, inflation, and economic stagnation are the primary factors contributing to a decrease in the total volume of bank loans acquired by companies. Respondents from the Central and Eastern Europe region express cautious optimism about prospects for the investment market in the commercial real estate sector, while also highlighting changes in the financial conditions offered by banks. The most preferred class of real estate assets financed by banks in Poland is warehouses.
In 2023, the most significant influence on banks in Central and Eastern Europe and the conditions for financing commercial real estate was the sharp rise in interest rates. Other determinates such as the macroeconomic conditions in the country where the bank operates, the economic situation throughout Europe, as well as a lack of prime assets in the market and a limited number of development projects, had a smaller impact on financing. On the other hand, matters related to ESG gained importance compared to the results of studies from previous years.
Real Estate Financing is Important for Banks
The KPMG study suggests that commercial real estate financing remains essential for banks in Central and Eastern Europe. However, banks are divided concerning changes in their loan portfolios: 38% of respondents do not anticipate significant changes, while another 38% anticipate growth. In the next two years, many of them will face the necessity to refinance a significant portion of their portfolios. In the short-term real estate loan segment, an average of 17% of them are payable within 12 months, and 32% within two years. Loans granted before the pandemic, when real estate market transactions achieved record values, partially account for the high amount of loans that will become due within the next two years.
In 2023, there has been a noticeable slowdown in investment activity in the Polish commercial real estate market due to higher financing costs, changing market moods, and a price expectation gap between sellers and buyers of assets. Among entities actively operating on the local market, investors from the Central and Eastern Europe region play a key role. In Poland, warehouse assets, whose market conditions remain favorable despite slight decreases in both demand and supply, primarily attract investors. The retail property market is regaining investor interest after the pandemic, mainly focusing on smaller retail facilities. However, 2023 poses a challenge for the office sector due to investors’ cautious approach to office properties in the face of evolving work models and reduced demand for office space – says Katarzyna Nosal, Partner in the Tax Advisory Department, Leader of advisory for the construction and real estate sector at KPMG in Poland.
Warehouses returned to the top spot of the most eagerly financed types of real estate by Polish banks. Office and residential investments follow on the next positions.
Interest Margins Remain Relatively Stable
Over 60% of surveyed bankers confirmed that their interest margins increased compared to the previous survey edition from 2022. However, the rise was much more subtle, unlike the abrupt hike in benchmark interest rates, which led to a sharp increase in interest costs. At the same time, most banks declare the application of higher margins for development projects. Over 80% of those surveyed stated that their banks require variable interest rates to be hedged with derivative instruments, with over 22% asserting that at least 80% of the loan value must be secured. Polish and Slovenian banks are the most restrictive in this respect.
The loan-to-value (LTV) ratio in Central and Eastern Europe is around 0.50-0.74 for office, logistical, and retail investments, which means investments are funded by debt in 50-74%, with the remaining part being the investor’s own capital. In Poland, banks are able to accept the highest LTV ratio for logistical and office investments, while it is lower for retail investments.
The loan-to-cost (LTC) ratio is around 0.56-0.73. In Poland, this indicator is around 0.5-0.58, depending on the type of asset.
Meeting ESG Criteria is Necessary for Financing
Over 80% of KPMG’s study respondents confirmed having an approved ESG strategy in the field of commercial real estate financing. Banks have made significant progress in implementing ESG criteria into their credit assessment policies, internal reporting, data collection and monitoring, and other ESG-related activities. However, the study reveals considerable differences among individual banks, brought about by different strategies of their parent companies and how proactive central banks are in different countries.
Changing legislation and market standards are leading banks to adopt more restrictive guidelines in the ESG sector in their credit policies. Although the survey results show that 44% of banks have not refused to finance investors due to non-compliance with their internal ESG requirements over the past year, and 10% of surveyed banks had no defined assessment criteria in this area, banks are increasingly leaning towards sustainable development in their credit decisions.
The results of the survey conducted by KPMG suggest that compliance with ESG criteria has not been the key determinant in granting a loan over the past 12 months, despite being an increasingly important factor. It’s worth noting that the number of banks that refused financing to investors due to non-compliance with their ESG requirements (either exclusively or in combination with other factors), doubled over the past year.
Banks are paying increasing attention to aspects of sustainable development to conform to changing legal and market expectations, which will lead to significant changes in credit policies in the near future. At the same time, the number of banks in Central and Eastern Europe that offer ESG-focused special loans, mainly with lower interest margins and longer maturities, remains low.
Interviews conducted with banks in the Central and Eastern Europe region unequivocally indicate the growing importance of ESG aspects for financial institutions. Over 90% of surveyed banks signaled an increase or significant increase in the importance of ESG issues as part of their credit policies compared to the previous year, while only a few did not notice any changes. On the other hand, in the face of challenges related to the transformation process of the real estate sector in terms of energy efficiency and the decarbonization of buildings, a gap in financial products offered by banks in the region tailored to expectations for transforming the sector financing is still visible. The scale of the transformation will cover most of the approximately 14.2 million buildings in Poland, over half of which are non-residential buildings. This process will not be possible without the active involvement of the banking sector and a diverse range of financial instruments for projects and initiatives related to ESG – says Monika Dębska-Pastakia, Partner Associate in the Deal Advisory Department, Head of the Real Estate Advisory Team at KPMG in Poland.
ABOUT THE REPORT:
The KPMG report entitled “Property Lending Barometer” is based on a survey of commercial real estate financing by banks in the Central and Eastern Europe region. This year, the survey included 48 banks from Bulgaria, the Czech Republic, Croatia, Hungary, Poland, Romania, North Macedonia, Slovakia, Slovenia, and Serbia.
