Financing real estate with no loss of liquidity

Financing real estate with no loss of liquidity

What can external asset managers do if a client wishes to buy real estate but has limited liquidity available due to their assets being invested? Credit Suisse experts show how real estate financing can nevertheless work.

Surging inflation and rising interest rates

Markets are currently dominated by a strong surge in inflation. "Our assumption is that this inflation isn't just a temporary phenomenon; instead, it will continue to concern us for a while yet," said Fredy Hasenmaile – Head of Real Estate Analysis at Credit Suisse – at the "Real Estate Market Perspectives" event. The continued upward pressure on prices is likely to be driven by a cocktail of special factors including ongoing supply-chain constraints, the war in Ukraine, and fiscal policy measures.

It is this development that is also behind the rise in interest rates. After falling for years, interest rates are now rising sharply. The real estate market is also feeling the effects of the change: On the one hand, there is a risk of property prices falling; at the same time, the cost of financing residential property has risen significantly.

Early extension of mortgages

"Due to the sharp rise in interest rates on Fix mortgages, many clients are extending their mortgages early ," says Fabian von Ballmoos, Senior Credit Specialist EAM Real Estate Financing at Credit Suisse. This typically involves Fix mortgages with a term of up to 25 years, which can be taken out with a rate fixed up to three years in advance.

Furthermore, the unattractive interest rate environment means a large amount of assets is invested. So, what happens if a client now wishes to buy a house but has insufficient liquidity available because their assets are tied up? And what can an external asset manager do if a client already owns real estate with a low loan-to-value ratio, or has no borrowings on it at all? Fabian von Ballmoos has some solutions to offer:

1. Is it possible to buy a house with no loss of liquidity?

Yes. Let's assume the purchase price of a single family dwelling is CHF 3 million; in this case, the client needs to contribute equity of around CHF 600,000. If that isn't possible due to limited liquidity, the client has the option of pledging the equity component. In this case, the CHF 3 million purchase price is paid entirely by means of a mortgage.

It's also possible to pledge safekeeping accounts in order to avoid repayments. In this example, if the client pledged CHF 1 million it would be equivalent to a two-thirds loan-to-value ratio – meaning repayment isn't required. This option is particularly attractive in the Zurich area, where repayments need to be made within ten years.

2. What about a client who owns real estate with a low loan-to-value ratio, or has no borrowings on it at all?

Owning a property with a low loan-to-value ratio not only enables the client to economize on mortgage servicing costs, but also offers greater potential. By increasing their mortgage, the client can grow their own safekeeping account and in that way generate additional income from securities. Examples include family homes with a loan-to-value of less than 50%, cases where a property was last valued over ten years ago, or where the client inherited a multi-family dwelling on which there is little or no borrowing.

This option is particularly attractive in a low interest rate environment, when mortgage interest rates are low and the potential returns on the safekeeping account are high. In addition, the low loan-to-value should be retained – with two-thirds being the maximum for an increase in the safekeeping account.

Both approaches can be used to finance various types of property. Credit Suisse helps external asset managers with the financing of real estate, business premises, and commercial properties that are either owner-occupied or used by third parties. However, it should be noted that loan-to-value varies depending on the type of building.

Real estate funds offer post-pandemic investment opportunities

Along with property financing, investing in real estate should not be overlooked. "Investments in real estate funds also remain attractive in the current interest rate environment," says Christian Braun, Senior Product Specialist Real Estate Investment Vehicles at Credit Suisse. The high level of demand is preventing real estate values from falling, he explains. Given this situation, valuers are unlikely to see any need to adjust discount rates for the time being.

Consequently, the market still offers exciting investment opportunities; what's more, direct yields remain higher than average – no wonder, therefore, that over CHF 6 billion flowed into the asset class of real estate equities, funds, and investment foundations in 2021 alone.