Swap review to unlock property investors’ legacy loans
A close review of swap positions will allow a number of UK borrowers to finally renegotiate legacy property loans.
This could potentially generate concessions of between GBP5bn and GBP10bn on loan refinancing or restructurings and redress over the next few years, according to global property consultancy DTZ.
A report published by DTZ Research today explores the impact of possible swap mis-selling and poor structuring in the UK commercial real estate lending market and estimates the potential for significant concessions and swap redress to investors.
The background for this analysis comes from the prevalence of swaps in the UK lending market. Lenders have traditionally insisted borrowers sign up to a floating-to-fixed rate swap contract in order to eliminate the risk of changes in the floating interest rates.
Hans Vrensen, global head of research at DTZ, says: “As floating rates came down in 2009 and have stayed down since, swap mark-to-market costs have posed an increasing problem for many borrowers. In some cases, where the swap term exceeded that of the loan, these costs were very high relative to the value of the property, making refinancing difficult and sometimes impossible. In my view, these swaps’ mark-to-market costs have been one of the biggest impediments so far to successful refinancing and restructuring of debt across the commercial property industry. The swap reviews have the potential to unlock this impediment, which is a positive for the market to continue its recovery.”
The DTZ analysis is based on two different samples of swap data, previously not available.
New data from London law firm Collyer Bristow on more than 40 swap and related loan terms and notional amounts confirms that swaps were not always structured or sold appropriately.
If the swap’s term exceeds that of the loan significantly, risk management was probably not the main objective. Poor structuring aside, it could also be argued that insufficient or incomplete information provided could represent mis-selling. This mis-selling has also been the focus of an existing swap compensation scheme for SME borrowers, put in place by the FCA earlier this year.
Stephen Rosen, partner at London law firm Collyer Bristow, says: “Many of the cases we have worked on show significant mismatches between the swap and loan terms. Lots of investors only became aware of this at loan maturity when the mark-to-market costs were presented to them as part of the settlement amount. We believe that there are still many real estate investors who could seek redress but have not yet fully considered their position in this respect.”
He adds: “An FCA pilot study found that 90 per cent of tested SME swaps did not comply with regulations. Given their size, most property investors are not eligible under the scheme, but may still be able to make claims.”
Additional data from derivatives advisors Vedanta Hedging Ltd shows financial redress achieved on a sample of near 70 out-of-court settlements. In aggregate, borrowers have realised an amount of GBP104m in cash or cash-equivalent in these cases. This is 18 per cent of the total original swap notional. This figure demonstrates that borrowers have been sufficiently convincing and have been compensated. The redress typically includes the cash equivalent amount of any release from future obligations (including swap breakage) under the swap and compensation for consequential losses. This might include business opportunities that the borrower was unable to profit from as a result of the swap encumbrance.
Mayad Rassam of Vedanta Hedging Ltd says: “We are pleased about the level of redress that we have assisted clients to achieve so far, in conjunction with their legal teams. It is important to note that time is running out for many as the swap contract must almost always be challenged within six years of entering into the swap. While the media headlines will inevitably focus on SMEs, we are advising a number of large international property firms, some with notional swaps in the hundreds of millions, who believe they did not fully understand the complexity of what was provided to them.”
Based on these two different sources, DTZ Research expects that many UK investors will now be able to enter into a more productive stage in their discussion with lenders. DTZ Research also estimates that UK borrowers could realise between GBP5bn and GBP10bn in concessions from lenders on loan refinancing or restructurings and redress over the next few years.
Vrensen says: “The main market implication we expect from these swap reviews is the unlocking of many legacy loan positions and a related further reduction of overall leverage. This is a very positive development for the overall market and its continued recovery.”