vdp-Spotlight: New business in property finance follows rise in construction and transaction volumes

German real estate market in the longest expansion phase since German reunification; Financing structures stable despite long-running boom; average share of borrowed funds at around 50 percent

The real estate market in Germany is experiencing an expansion phase that has lasted almost ten years now. Construction investment and transaction volumes in the market for existing properties have increased continuously since 2010. This is also a reflection of the price growth observed in recent years. As real estate investments are financed to a large extent through borrowed funds, the rise in construction investment has also led to an increase in bank lending.

The volume of new construction in the residential property market advanced by 112 percent between 2010 and 2018. This was a significantly stronger growth rate than for construction work in the case of existing properties and for transaction volumes. Given that new construction usually requires a larger share of borrowed funds, lending in the residential property sector rose somewhat more strongly than the overall volume of construction work and the transaction volume (approx. 70 percent as opposed to 60 percent, respectively).

The commercial property market experienced similar developments. Here, too, lending rose somewhat more strongly than the construction and transaction volumes (64 percent compared with 49 percent). In 2016, total lending for the construction and purchase of commercial properties amounted to around €72 billion. Since then, the volume of new lending in this segment has been virtually unchanged, with minor fluctuations.

Development in use of borrowed funds

The share of the construction and transaction volumes financed through borrowed funds has remained largely stable. Over the past decade, the average share of borrowed funds came to around 50 percent for all real estate investments and transactions. It should be kept in mind that the role played by the different property market segments in this context is subject to change over time, and that they require different shares of borrowed funds. For instance, investments in existing buildings today play a greater role in relation to new construction than was the case 25 years ago.

“The long-term view shows that the financing structures are stable on average,” said Jens Tolckmitt, Chief Executive of the Association of German Pfandbrief Banks (vdp). The strong demand in the real estate market, the limited volume of new construction activity and the persistently favorable financing conditions are likely, for the time being, to keep the demand for credit and corresponding lending volumes on an upward trajectory.”

However, this development should not cause banks or investors any extraordinary levels of uncertainty. The established practice in Germany of long-term lending at a locked-in rate of interest gives borrowers planning security and cushions potential short-term economic fluctuations. With the Pfandbrief, which this year celebrates its 250th anniversary, banks have at their disposal a long-term instrument for funding at matching maturities. And the trend in the number of Pfandbrief issuers, having risen from 63 in 2010 to 82 in 2019, show that banks are indeed using it.

“There is currently no sign of critical cyclical risks to financial stability,” commented Jens Tolckmitt. “We are therefore at a loss to understand the recommendation made by the German Financial Stability Committee to the Federal Financial Supervisory Authority (BaFin) to activate the countercyclical capital buffer at very short notice, with effect from the third quarter of 2020. On the contrary, the decision heightens economic uncertainty even more. At a time of weaker economic activity, the countercyclical buffer could therefore even have a procyclical effect.”