For Q3 2016 originations, Senior CRE lending returns are forecast to be 3.1%pa on a gross basis and 2.8%pa on a risk-adjusted basis. This represents no change on Q2 returns.
The previous quarter’s estimated 25bps rise in margins reflected weakening sentiment in the final week of June after the Brexit vote. That senior margins have been flat over Q3 2016 reflects in many ways a quicker return to “normality” than was thought likely three months ago.
There was only a very slight fall in 5yr swap rates of 6bps over the third quarter.
A modest improvement in the forecast for capital growth resulted in a very slight decline in Probability of Default and Expected Loss over the third quarter.
The key measure for banks, Return on RWA (calculated here as a function of margin and fee alone), was largely flat. On an RoRWA basis, gross returns were 3.5%pa and risk-adjusted returns 2.9%pa, assuming Strong slotting treatment.
Senior CRE lending continues to offer a healthy premium of 2.5%pa to the risk-free rate, on a risk adjusted basis.
Against corporate debt, the relative return offered by senior CRE debt improved further over Q3 to 1.8%, the highest level for almost two years. Spreads on CMBS narrowed a little, making senior CRE lending look slightly more attractive versus this asset class than three months ago.
On a risk-adjusted basis, CRE debt arguably offers significantly more attractive returns than ungeared equity. This is particularly true of some key segments, including London offices.
Please note that some figures in this edition of the UK Debt Prospects MarketView will differ from previous versions due to an enhanced methodology and increased asset-level data inputs driving our underlying calculations.
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