Some banks in Western Europe and the U.S. are under pressure from commercial real estate (CRE) exposures, yet across Central and Eastern Europe (CEE) there is little reason to expect that banks will suffer material credit losses from CRE portfolios. S&P Global Ratings attributes that to structural factors in CEE markets, real estate companies' generally sound performance, and the region's positive economic environment. CEE banks have played their part too, by limiting exposure to riskier CRE projects and maintaining their domestic focus (see chart).
What's Happening
The sharp rise in interest rates and limited demand for many property types supressed CRE prices and transaction activity in 2023, leaving some banks across the U.S., Germany, and Sweden with larger-than-expected loan-loss provisions. Yet, looking to Europe's east, we have seen no banks reporting markedly negative results from CRE exposures. In fact, CEE banks' 2023 reports are characterized by solid profits, low credit losses, strong capital ratios, and healthy liquidity buffers.
Why It Matters
CRE exposure accounted for an average 35% of CEE banks' corporate loans, as of December 2023, compared to 22% for EU banks, according to data from the European Banking Authority (EBA)--whose definition of CRE is broad and includes, for example, corporate lending activities that are secured by properties used for companies' own operations.
Loans to the construction sector were about 2% to 13% of CEE corporate loan books, as of December 2023, according to national banking statistics. We consider the construction sector to be the riskiest part of CRE exposure, a view that is supported by its typically higher nonperforming loan ratios. Yet, operating performance has proven resilient across most real estate and construction companies in the CEE, despite recently tighter leverage ratios --with the partial exception of Romania, where companies' leverage ratios (and construction exposure) are higher. Furthermore, the services sector, which includes CRE, contributes less to GDP in CEE than across Western Europe, making it less relevant to CEE countries' economic performance.
Our discussions with rated banks and supervisory authorities in CEE, suggest that structural trends are reducing risks for most types of CRE. For example:
- Office supply and demand has been kept in balance by the gradual curtailing of home working in the region. However, we could see pockets of weakness in the Hungarian, Polish, and Romanian office market, where office stocks and vacancy rates have been highest. Smart office solutions and sustainability criteria are introducing new complexity for construction companies and slowing new supply.
- Retail outlets, including shopping centres, are at risk from the growth of e-commerce, though that has been slower in CEE than in many Western European countries. And CEE shoppers remain attached to cash, which supports physical purchases, using it for 50%-70% of retail transactions in 2022.
- Hotels and restaurants have benefited from growth in international tourism, which increased about 20% year-on-year in 2023. Hotel bookings are still below pre-pandemic levels but should see upside from strong regional economic growth.
- Industrial and logistics companies, including operators of large distribution centres and warehouses, have cut real estate-related investment due to tighter financial conditions. We expect demand and supply will remain balanced but shouldn't put loan books at risk.
What Comes Next
The emergence of broader CRE stresses would surprise us. Further rate cuts and easing financial conditions should help most banks in CEE avoid elevated credit losses in their CRE portfolios. Meanwhile, regional economies are set to recover in 2024 as inflation recedes and EU transfers support investment (and thus banks). We also understand that regulators in most European countries are studying banks' CRE books with a view to enhancing associated risk management practices.
Background In Brief
Analysing credit risks related to CRE activities is complicated by a lack of reliable data. The European Systemic Risk Board (ESRB) issued a recommendation in 2019 to close real estate data gaps in Europe to improve data quality.
The EBA classifies CRE exposures according to the methodology of the ESRB, which includes loans for real estate used by corporate owners and social housing loans. Social housing is a low-risk category considering its public policy role, while property owners using their own space are more likely to repay debt than those renting out properties.
Commercial real estate that is under construction and without realized cash flows typically has higher default risks. Following this logic, we view bank balance sheet's exposure to "construction" (according to the Nomenclature of Economic Activities (NACE) classification) as a good proxy to gauge CRE risks on a sector-wide level.
Related Research
- Some U.S. Regional Banks Could Face Higher Risk If Commercial Real Estate Asset Quality Worsens, Mar. 26, 2024
- Top European Bank Rating Trends In 2024: The Future Is Now, Jan. 24, 2024
- Central And Eastern European Banking 2024: Solid Performance Buffers Mounting Risks, Nov. 21, 2023
- Tech Disruption In Retail Banking: CEE Banks Are On The Digital Fast Lane, May 06, 2021
This report does not constitute a rating action.
| Primary Credit Analyst: | Cihan Duran, CFA, Frankfurt + 49 69 3399 9177; cihan.duran@spglobal.com |
| Secondary Contacts: | Anna Lozmann, Frankfurt + 49 693 399 9166; anna.lozmann@spglobal.com |
| Karim Kroll, Frankfurt 6933999169; karim.kroll@spglobal.com | |
| Nicole Reinhardt, Frankfurt + 49 693 399 9303; nicole.reinhardt@spglobal.com |
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