The country’s real estate debt specialists remain sanguine despite gathering clouds in the local banking sector, writes Daniel Cunningham.

Italy is the latest member of the European Union to enter crisis mode. Last December, its parliament approved a €20 billion rescue package for the country’s most troubled banks, including the world’s oldest, Monte dei Paschi di Siena.

Earlier that month, reforms to the creaking constitution, proposed by the government, were voted down in a referendum which cost then prime minister Matteo Renzi his job.

But while political and economic upheavals in the eurozone upset real estate finance markets during 2016, Italian market players urge that their country’s troubles be seen in perspective. The recovery of Italy’s real estate market, and its property banking sector, will not be derailed, they argue.

A major challenge facing Italy’s new government, headed by Paolo Gentiloni, is successfully saving MPS, Italy’s third largest lender, and restoring faith in Italian banking. Attempts led by JPMorgan for a €5 billion recapitalisation of the Tuscan bank failed after potential anchor investors including the Qatari sovereign wealth fund failed to commit.

MPS is not the only problem bank in Italy. Genoa’s Banca Carige is due to deliver to the European Central Bank proposals to clean up its balance sheet. Perhaps most worryingly, investors in Italy’s largest bank – UniCredit – approved a €13 billion cash call as part of a turnaround plan.

Despite this, real estate finance professionals dismiss the suggestion of a domino effect across Italian banking. “Banks like UniCredit have put forward plans to improve their capital positions and markets have reacted well,” says Alexandre Astier, head of CBRE Italy’s capital advisors division. “It’s a complicated situation, but it’s been priced into bank stocks.”

Italian banks came under the spotlight during last summer’s European Banking Authority stress tests, through which MPS’s shortfall was laid bare. Although it was among the weakest of the banks tested, UniCredit was found to have an adequate capital ratio, as were the country’s other lenders.

“All the major Italian banks were in a good position, aside from MPS,” argues Michele Monterosso, co-head of ING Real Estate Finance Italy. “We may see some mergers in the coming months to reduce fragmentation.”

The impact of the banking crisis on property debt liquidity is likely to be cushioned by the fact that, aside from UniCredit and Banca IMI, the main lenders are foreign. French banks such as BNP Paribas and Credit Agricole regularly lend in Italy, as do German Pfandbrief banks.There’s also the fact that most of this lending is to core properties such as prime offices in Rome and Milan and shopping centres across the northern hubs. Smaller Italian banks are known to finance regional property, although mainly with relationship clients.

Several Italian banks are keen to increase their exposure to real estate, although with margins for five-year, conservatively-leveraged loans as low as 150 basis points, domestic banks with high costs of capital find it difficult to compete with foreign lenders.

“Banks started lending again in Italy a year ago,” says Matteo Cidonio, managing partner of independent asset manager GWM Capital Advisors. “Prior to that it was just international lenders. The clean-up of banks’ balance sheets will be good from a risk perspective.”

Cidonio insists that property finance in Italy is not just limited to core transactions. “There is development finance from Italian and international banks. It’s selective, but it’s there.”

UniCredit presented its business plan to 2019 just a few days after the 4 December 2016 referendum. Despite the uncertainty of the situation, the plan – based on a reduction of non-performing loans and a strengthening of capital ratios – led to a boost in the bank’s stock.

“This is expected to lead to an increase in NPL purchase opportunities as well as create refinancing situations, therefore increasing the need for financing liquidity both for senior and mezzanine lending,” says Francesca Galante, co-founder of real estate debt advisor First Growth Real Estate.

There are hopes that NPLs from the MPS loan book will be put onto the market in due course. So far, there has been evidence of some Italian loan portfolio transactions (see p. 16).

“In 2016, the total volume of disposed NPLs was lower than expected given uncertainty linked to the referendum and the effectiveness of reforms implemented in the NPL sector,” says Galante.

Pricing expectations between vendors and buyers need to converge before the Italian loan sales market takes off in earnest. Also, investors need to be convinced that enforcement regulation is being reformed and that buyers of loans will be able to access underlying property within their investment timeframes.

Renzi had attempted to address this. Among his reforms were amendments to bankruptcy and foreclosure proceedings, beneficial tax treatment for banks’ loan provisions and the creation of a national rescue fund, Atlante.

One reform – Patto Marciano – introduced in 2016, allows lenders to obtain the transfer of property on their borrowers’ default, bypassing court processes. First Growth has advised on two of the few acquisitions implemented with this feature. “It may play an important future role in new and restructured security packages,” Galante says.

One aim of the referendum had been to concentrate more power to central government, enabling such reforms. Some fear that the ‘no’ vote will set things back.

“A ‘yes’ vote would have empowered the government to give more steam to specific reforms,” says ING’s Monterosso.“So this government, which is dealing with the MPS bail-out, is unlikely to focus on reforms aimed at speeding up enforcement in the short term.”

Referendum fall-out

Although the result of the referendum was Italy’s version of the populist uprisings which saw the UK vote for Brexit and the US for Donald Trump, it is not considered such a shock.

“The outcome was not unexpected,” says Monterosso. “Unlike the Brexit and Trump outcomes, many people expected the ‘no’ vote in Italy.”

Neither outcome, he adds, would materially have solved Italy’s economic problems. The country has suffered low growth, high unemployment and soaring public debt. Public anger is also high. The ‘no’ vote spelled the abandonment of reforms that would have simplified the cumbersome political system, but by staking his political future on the proposals, Renzi turned the referendum into a proxy vote on his leadership and a chance for the electorate to give him a bloody nose.“The main impact of the referendum is uncertainty, although there seems to be a real estate market resilience to that uncertainty,” says Galante.

That uncertainty might have cost MPS a private sector bail-out, but real estate people say that it has not had a major impact on property investment trends. “Most investors saw the referendum as just a political event,” insists CBRE’s Astier. “The cycle is still where it is. Rates are very low.”

A new government under Gentiloni was formed swiftly, complete with most of Renzi’s ministers. It is tipped to last until the next planned general election, which takes place in 2018. Foreign investment into Italian real estate has been a risky call throughout this cycle, and that has not changed significantly. “Investor appetite for prime office and retail assets is high and will remain high,” insists Monterosso. “The market already reflects a risk premium. There’s a higher yield than in Paris, London, Madrid.”

At the time of writing, Italian investment volumes for 2016 were expected in the region of €7 billion, which would be a better performance than 2015 and above the 10-year average. Domestic capital does still dominate, although foreign buyers have increased their activity. A lack of prime stock did keep institutional investor activity muted, however.

Looking forward, market players admit that it is difficult to predict the longer-term impact of Italy’s political and economic woes on real estate.

“On the one hand, political uncertainty remains,” says Galante, “but on the other hand, Renzi’s reforms have had some effect. Italian banks remain under pressure to off-load their NPLs and clean up their balance sheets. That could help to fuel activity.”

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