Mandeep moderated a panel discussion on the topic of Non-Performing Loans at the 23rd Annual AFME & IMN Global ABS Conference held in Barcelona in June earlier this year. The following topics were discussed:
- NPLs: the problem and the opportunity
- Core European NPL markets: Ireland, Spain, Italy and Greece
- Private equity and the NPL opportunity
- NPLs and servicing
Below, we provide some important insights and talking points from the panel.
Mandeep was joined on the panel by Stephan Plagemann (Mount Street Portfolio Advisors), Ignacio Ramos (CMS), Callaghan Kennedy (Maples Group), Udit Sanghi (Deutsche Bank) and Romina Rosto (Societe Generale). We thank them for their participation in the panel and for their contributions to this blog post.
What is an NPL?
There is no universal definition of a “non-performing loan” but it is usually a loan which is in default and 90 days have passed since payment was due. “90 days” is the standard used by the ECB / IMF.
Opportunity for investors
- There has been a high volume of recent activity in the NPL loan sales market (according to a recent Debtwire report there were disposals of NPLs totalling EUR 205.1bn in gross book value in 2018). NPLs have become a prominent feature of the European fixed income marketplace following the global financial crisis.
- The focus of NPL activity has moved to Southern European countries such as Italy, Spain and Portugal over the last 2 years. More recently Greece, Cyprus and the CEE countries have seen increased NPL activity due to their relatively high NPL ratios.
- As regulators are pressurising banks to bring their NPL ratio to below 5%, there is an opportunity for a broad spread of investors who can employ flexible strategies for NPL resolution and can extract value. This means that banks can free up capital and reduce costs as well as spend less time and effort managing NPLs.
- Securitisation can complement outright NPL sales. One of its key advantages is that the universe of distressed debt investors (and therefore demand for such investments) can be expanded. This is thanks to the additional scrutiny, including additional credit analysis, from rating agencies. Securitisation commoditises and standardises financing for investors which can therefore attract a wider investor base.
Recent developments in core European NPL markets
- Ireland, along with Spain was among the most active markets in the immediate aftermath of the financial crisis. There has been a gradual reduction in loan portfolio sales since the market peaked in 2015 but market participants are expecting an increasing volume of secondary deals and securitisations. In recent years, NPLs have become a hot political topic in Europe and last year, in Ireland, new laws were introduced regulating the holding of legal title to consumer loans and the portfolio management and key-decision making in relation to such loans. This is anticipated to result in further portfolio restructures and sales this year, as well as potentially providing a barrier to entry for new market participants.
- After heavy selling by Spain’s main banks, its NPL ratio fell to 3.7% in December 2018. Some banks, however, have more work to do which could trigger further NPL loan sales in 2019. Interestingly, in the past few years, many of the main Spanish servicers have changed ownership (for example, the sale of Altamira Asset Management, which has c.EUR 55bn of assets under management, to the Italian servicer, doBank).
- Italy has the highest amount of NPLs in Europe. An important recent development is that the GACS scheme, which provides the opportunity for banks to shift NPL portfolios into securitisation vehicles, has been renewed for another two years. This scheme has been a main driver for disposals with 14 GACS deals concluded in 2018 and there are discussions surrounding a similar securitisation scheme being prepared in Greece.
- Greece has long been at the top of the charts for its NPL ratio, but it took until 2018 for significant sales by banks to take place. In the first quarter of 2019, many Greek banks were in the advanced stages of marketing or preparing sizeable portfolios which suggests that 2019 could be a record year for NPL sales. Indeed, Piraeus Bank and Intrum have announced a long-term partnership to give Intrum an 80% stake in the bank’s new NPL management platform. Furthermore, Eurobank Ergasias recently launched Greece’s first publicly rated NPL securitisation, which suggests the market is springing to life.
Private Equity and NPLs
- Since the global financial crisis private capital has played a huge role in the development and growth of the NPL market. One driver behind this is that banks have had to clear their balance sheets of NPLs. These NPLs, however, cannot be absorbed (or taken on) by other European banks that were themselves also burdened by their own stock.
- A further driver is that, in a sustained low interest rate environment, there has been a high level of private capital which remains un-deployed and hunting for yield. NPLs have proved to be an asset class which could satisfy the required returns for investors including specialised debt funds, distressed funds, private equity and even real estate funds (as most of the NPL trades have real estate as the underlying collateral).
- As the “easy” opportunities for investing in NPLs post-financial crisis have dried up, several private equity firms have started employing various strategies, apart from doing straight asset deals, for example by buying servicers or developing their own acquisition, servicing and/or financing platforms.
- The extent and quality of due diligence is key when buying an NPL portfolio, as it is directly correlated with the reliability of your projections and valuation. Some funds habitually due diligence more than 95% of the portfolio. This is where having your own “platform” helps with insights into the portfolio, market intelligence and also by providing scale and manpower to analyse (and ultimately accurately value) the portfolio and its potential returns.
The Role of Servicing in NPL transactions
- Servicing is a crucial factor in the success of an NPL investment as it can impact on increased recovery rates and the ability to exploit synergies and economies of scale.
- It is imperative for banks and investors to apply a systematic, proactive and focussed approach to NPLs, which requires sufficient resources with the relevant expertise, capital and up-to-date technical tools.
- The key tasks of the servicer span NPL management, monitoring, restructuring, sales, security enforcement, debt write-offs and reporting enabling a constant review of the economics of a sale versus internal work-out. The quality of execution will have a direct impact on recoveries and the return of investment.
- The seasonality in NPL volumes across jurisdictions and asset classes paired with significant scaling effects brings up the question to choose between building and maintaining in-house capacities for NPL servicing versus utilising specialised third-party resources.
- Since the 2008 financial crisis, institutional investors have gained a significantly larger share of the loan market and real money investors emerged as the obvious (and mostly only) buyer of NPL portfolios from European banks. Lean internal structures consequently made the availability of third-party servicers a precondition for successful NPL sales of any relevant size. While generally available for real estate and consumer related debt, the emergence of servicing capacity for various other sectors has been lacking.
For more information on NPLs and the new EU Securitisation Regulation see our related blog: NPLs and the new EU Securitisation Regulation: compliance, challenges and conflicts by clicking here.