Germany’s real estate crisis may see further distress ahead
Germany’s economy is sliding into a deeper crisis, driven by high borrowing costs, the loss of cheap Russian energy, and persistent geopolitical frictions. Once a global manufacturing powerhouse, Germany’s automotive and industrial sectors are faltering, while real estate and construction face significant distress.
Energy crisis exposes vulnerability
Germany’s reliance on cheap Russian energy has proven to be its Achilles’ heel. The surge in energy prices, triggered by the war in Ukraine, has severely dampened growth and productivity, driving international capital away. While the Bundesbank forecasts a delayed economic recovery, contingent on the absence of new shocks, many economists remain pessimistic. GDP contracted by 0.1% in Q2, and prospects for Q3 suggest continued weakness. Industrial production fell sharply by 2.4% in July compared to the previous month, well below the expected -0.3%, according to Germany’s federal statistics office.
The decline in output was broad-based but particularly steep in the manufacturing sector, especially within the automotive and electrical equipment – two key pillars of Germany’s economy, and their downturn signals further contraction risks. Furthermore, Germany’s trade surplus dropped sharply to €16.8 billion in July, from €20.4 billion in June, raising concerns that the country may fall into a technical recession in Q3. However, there was a silver lining with the annual CPI rate dipping below 2% in August, the first time in three years, providing some relief from inflationary pressures, although it will take time for the benefits to materialise.
Interest rates and market sentiment
The European Central Bank’s (ECB) first interest rate cut in June sent a positive signal to markets, improving predictability around financing costs. However, interest rates remain high, continuing to suppress real estate capital flows. Market participants expect two more rate cuts by year-end, and eventually bringing the deposit rate to around 2.5% in 2025. However, recent data suggests this path could be bumpier than expected, due to persistent inflation in the services sector and ongoing wage growth.
While these anticipated cuts may slightly ease financial conditions, still-high borrowing costs, geopolitical uncertainties, and weak business sentiment are likely prevent a swift recovery. German business expectations, as measured by the ifo Business Climate Index, have been negative across all sectors for two years, with no improvement on the horizon. Corporate insolvencies rose by nearly 30% in the first half of 2024, the highest in a decade, according to Creditreform, as reported by Bloomberg.
Real estate market in turmoil
Germany’s real estate market is reeling from rising borrowing costs, leading to a sharp drop in property valuations and limited liquidity. The refinancing gap is growing, with cautious lenders and absent mezzanine providers leaving many projects without funds. MSCI reports that over 50% of Europe’s distressed real estate assets are in Germany, with notable cases such as Signa’s collapse, Rene Benko’s retail empire, last November, which triggered distressed property sales, and the owner of Frankfurt’s Bundesbank headquarters filing for insolvency, citing “liquidity difficulties”. Deka, the asset manager and another decades-long tenant, vacated the building for new headquarters in August. German offices are struggling with lower occupancy rates, in part due to the global shift towards hybrid working. Commerzbank warns corporate insolvencies will likely rise further in the months ahead, adding more risk to real estate landlords.
In residential markets, sharp declines in building permits and housing completions reveal a weak market. High interest rates, soaring construction costs, and a lack of suitable land have caused many projects to be postponed or cancelled. In 2023, only 294,400 new apartments were delivered, against the government’s 400,000 target. Elevated interest rates are keeping new construction stagnant and the prospect of further distress elevated.
Distressed property sales now account for 21% of total transactions, up from 12% in just three months, according to Colliers. This figure is expected to rise as liquidity pressures intensify, particularly among project developers and distressed sellers. While some large portfolio holders may seek to bring assets to market and capitalise on modestly improving financing conditions, new regulatory mandates – particularly stringent ESG requirements –
are complicating asset management strategies.
Germany’s debt-to-GDP ratio is projected to reach 64% in 2024, exceeding the EU’s 60% limit. Although better than France, Spain, and Italy, the political landscape adds uncertainty. Gains by far-right and populist parties in regional elections are causing investor caution, as these developments threaten the stability of the centre-left coalition government.
Opportunities amid distress
Despite the challenges, opportunities are emerging, particularly for alternative lenders and private equity funds. These players are stepping in to fill financing gaps, especially for complex, high-risk transactions. While the volume of distressed sales has been limited so far, further economic deterioration could intensify price pressures and drive valuations down, creating more opportunities for opportunistic investors. Banks are largely focused on modifying and extending loans to manage risk and maintain relationships, but some are expected to turn towards debt sales to resolve distressed real estate situations. As Europe’s secondary credit market matures, debt sales will likely be crucial for banks to de-risk while providing credit investors opportunities to unlock value in distressed assets.
NPL outlook
The implementation of the EU Credit Servicer Directive (CSD) into German law is expected to accelerate NPL sales by fostering improved pricing transparency and simplifying cross-border distressed debt transactions. This will likely encourage German banks to offload more NPLs amid rising ratios and increasing corporate loan distress. As of Q1 2024, the European Banking Authority (EBA) reported NPL volumes rising to €39.8 billion, with commercial real estate (CRE) NPLs increasing from €13.7 billion to €14.2 billion. While overall NPL ratios remained at 1.3%, CRE NPLs rose to 5%. Projections suggest NPL volumes could rise to €40.2 billion by year-end, with further increases in 2025, according to the NPL Barometer, an influential survey of risk managers in leading German credit institutions.
Residential mortgages are also expected to contribute to rising NPLs over the next two years. Many banks are bracing for mortgage refinancing risks over the next two to three years as residential mortgages loans fixed at 1% will reset at rates between 3.5-4%, likely increasing NPL volumes. Meanwhile, insolvencies surged 41% in 2023 due to inflation and rising costs, adding to real estate distress. High-profile cases like HELMA’s insolvency have driven activity on distressed platforms, including on Debitos. Additionally, concerns are growing among subordinated SSD bondholders in office projects, like Branicks/DIC.
Conclusion
The combination of regulatory changes, rising distress, and economic challenges will likely lead to a significant increase in NPL sales in Germany. Proactive measures, such as strengthening risk management and expanding servicing capacity, will be essential for banks, investors, and servicers to navigate the challenges ahead. The opportunities for distressed asset investors are expected to grow as market pressures intensify.
Timur Peters is the founder of Debitos GmbH. He holds a diploma in finance and law. He has more than 10 years’ experience in the range of finance.
Before Founding Debitos Timur Peters was responsible in the distribution of Software for Banks and Financial Institutions for Comarch for the D/A/CH Region. Next to this he has worked for several years as a self employed Project Consultant in the area of Financing of Litigation cases, Peer2-Peer Credit Marketplaces and other online projects for financial institutions.
Website:
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