Private Credit Sees Opportunities in Australian Real Estate Amid Bank Hesitation

By Lewis Jackson and Rae Wee

SYDNEY — Private credit lenders are expanding their presence in various segments of the Australian commercial property market, offering alternatives to borrowers as banks withdraw from higher-risk lending due to a slowdown linked to rising interest rates.

The capital available for such deals is increasing, as investors, including pension funds, sovereign wealth funds, and insurance companies, seek attractive returns that are hard to find in today’s equity markets, particularly in the struggling real estate sector.

Qualitas, an Australian real estate specialist supported by the Abu Dhabi Investment Authority, has nearly doubled its funds under management to A$8 billion since mid-2022, with about half of that growth occurring since June.

U.S.-based PGIM Real Estate plans to invest an additional $1 billion in Australia over the coming years, according to Steve Bulloch, the head of Australian real estate for the firm.

"In the last 12 to 18 months, we’ve observed increased interest from institutional investors, many of whom view this as an appealing opportunity to diversify their portfolios," Bulloch noted.

These developments reflect a trend of growth in the non-bank lending sector, which continues to operate in a market where the four major banks—Commonwealth Bank, National Australia Bank, Westpac, and ANZ Group—dominate lending activities.

As of 2022, non-bank lenders comprised approximately 5% of all financial assets in Australia, a small fraction compared to the International Monetary Fund’s global estimate of 50%. Nonetheless, non-bank lending has grown to exceed A$600 billion in assets last year, inclusive of lenders specializing in retail credit. With traditional banks scaling back or exiting, non-bank lenders are venturing into residential and commercial construction, as noted in a March report from the Reserve Bank of Australia.

ATTRACTIVE RETURNS

Investors can anticipate returns ranging from 9% to 11%, with the added security of loans secured against tangible assets like condominiums or warehouses, typically featuring a 30% to 40% equity buffer, according to Paul Notaras, executive director at Barings Real Estate Australia.

However, these attractive returns come with higher costs for borrowers, with the Reserve Bank of Australia reporting spreads of about 200 basis points over major bank loans for various business loans.

Despite these costs, non-bank lenders are seen as a valuable source of credit during a period when banks have curtailed lending to certain property sectors traditionally viewed as high-risk, such as construction. Last financial year, a record 2,213 construction firms filed for insolvency, struggling with rising costs and fixed-price contracts.

New commercial property lending from the major banks has shown only 1% growth per quarter since June 2022, a level not witnessed since the pandemic, based on data from the prudential regulator. Increased regulatory scrutiny and diminished risk appetite have led major banks to concentrate on established property companies, as noted by Qualitas co-founder Andrew Schwartz.

"The traditional financiers have tightened their loan-to-value ratios and narrowed the types of borrowers they are willing to support, making it generally more challenging to secure funding, pushing many towards alternative financing," Schwartz explained.

For build-to-rent residential projects, banks are wary of lending more than 40% to 45% of a project’s value, whereas private lenders may extend support of up to 65%, according to Notaras. Meanwhile, property-related bond issuance has plummeted to record lows, with only A$299 million raised in the year leading to September, significantly below the decade average.

STILL SELECTIVE

Even among alternative lenders, distressed sectors like office and retail remain difficult due to rising interest rates driving down property values, along with shifts toward remote work and online shopping complicating rental growth prospects.

Instead, lenders are increasingly interested in projects aimed at addressing Australia’s ongoing housing shortage, particularly in the growing build-to-rent sector and the robust demand for warehouses and industrial properties.

A A$1.45 billion partnership between Qualitas and the Abu Dhabi Investment Authority will focus on the residential market.

"We have received more office financing proposals than ever before, likely because banks are reluctant to engage and larger institutions are overloaded," Schwartz commented.

"While we acknowledge the interest in office financing, it is not as compelling compared to other opportunities."