2010AWARDS & AnnuAL REVIEW - PERE

Taking all this into consideration, cash compensation will remain
relatively flat in the industry, Herzberg said, but a larger
bonus pool will create the sense that compensation is on its way
back up.
the great regulatory hurdle
On the regulatory front, 2010 saw an unprecedented level of
initiatives begin to take shape as governments around the globe
sought to reduce risks in the financial system. In Europe, the
Alternative Investment Fund Managers (AIFM)
directive and the Solvency II legislation are likely
to have Europe-wide implications for all asset
classes, including property. Meanwhile, in the US,
the Dodd-Frank Act and the Volcker Rule are expected
to have a similar impact.
Gordon sees private equity real estate facing “a
1-2-3 punch.” The first is broad financial regulation,
including the Dodd-Frank Act in the US and
European Market Infrastructure Regulation in
Europe. The second is insurance regulation, specifically
Solvency II, which is scheduled to hit this
year. And the third is global banking regulation,
courtesy of Basel III. All three have tremendous
implications for investors starting this year, so GPs
and LPs need to be planning for these, he said.
Stephen Tomlinson, senior partner in the real estate practice
group of Kirkland & Ellis, believes Basel III and its capital reserve
requirements will have a more powerful effect than the Volcker
Rule, creating greater pressure to exit the business through a sale
or by winding down. “This plays into the consolidation trend on
the GP side,” he added.
The proposed Solvency II legislation, a review of the capital
adequacy requirements for insurance companies in the European
Union, could result in these investors reducing allocations
to real estate. As it stands, the guidelines would
require them to reserve 39 percent for real estate.
This could prompt a retreat from the sector and a
release of stock into the market, or conversely an
increased appetite to move up the risk curve to
justify the risk capital.
Philip Cropper, head of real estate finance at CB
Richard Ellis, is one of those who believe Solvency
II would actually make real estate a more attractive
place to put capital. Provisions within the rule
would make insurers more likely to provide debt
funding and fill the gap left by banks, he explained.
In the US, the Dodd-Frank Act restricts banks’
investment in equity and hedge funds, while the
Volcker Rule will prevent banks and large financial
organisations from making equity investments in commercial
real estate, limiting them to providing debt financing. As a
result, many large banks that have real estate investment arms
either have or are thinking about selling off the business, Roth
said.
Other regulatory issues include European derivatives legislation,
which would require those using swaps to hedge interest
rates on their debt to mark to market daily and hold capital
against those positions, and changes to accountancy standards.
“If you are a tenant and take a lease on a property on your balance
sheet, you will need to recognise the long-term liability
obligations of that lease,” Cropper said, adding that the change
would put pressure on shorter leases. In addition, the benefits of
sale-leasebacks would diminish under the new rules.
A bit more liquidity
Although the financing markets have been tough for investors
in commercial real estate since the credit crunch, debt availability
is likely to improve in 2011. Still, it may be one
step forward and two steps back, as Basel III and
Solvency II could limit the availability of funding
from several usual sources. At the least, it may take
longer for normalised lending activity to return.
One encouraging sign for the market, though,
is the return of CMBS. John D’Amico, chief executive
officer of the CRE Finance Council, noted that
roughly $8 billion was issued in the US in 2010,
including $2.7 billion in the last three months.
About a dozen banks are active again and insurance
companies are likely to soon join in, he
added. But new issues will be different than those
of the past, Roth said, noting that structures will
be simpler with less tranches and the underlying
loans will have lower loan-to-value and higher debt-servicecoverage
ratios.
Although the CMBS market is expected to grow to $40 billion
this year and $100 billion in 2012, that volume still only represents
14 percent of the need, D’Amico said, noting that roughly
$1 trillion in real estate debt is set to mature over the next two
years. “Private capital will need to fill this gap,” he added. Luckily,
life insurance companies and mortgage REITs also are expected
to be more active sources of capital over the next two years.
In Europe, however, there was no CMBS activity in 2010.
Banks there want to see the securitisation market
recover, but they will need to retain stakes in the
loan pools they originate. “The European market
was frozen in 2010, except for covered bonds, but
it is likely will see some deals come through this
year,” Cropper said.
With regard to lending in Asia, Treacy said the
region has ample liquidity except for Japan, and
even that market is starting to come back in Tokyo,
albeit at lower levels. Basel III, however, will
create a big question mark on the willingness of
banks to lend, he noted.
However, according to D’Amico, the biggest
Treacy: beware Basel III
concern with financing is the equity gap created
by decreased property values and lower loanto-value
ratios. The question becomes who will cover this gap.
Because a further reduction in prices does not seem likely, the
gap is most likely to be addressed by either new players or new
money entering the market, he said.
Overall, D’Amico has a positive outlook for 2011 and beyond.
“The market has seen the worst, and we look forward to a turnaround,”
he said. In summary, he predicted three main trends
for 2011: “the certainty of regulation, the resurgence of securitisation
and the closing of the equity gap.”
D’Amico: CMBS returns
2010 AwArds & AnnuAl review | PERE 27