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The Games Continue ......

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Yet another example of banks using the rules which got us into the mess to pretend to get us out of this mess.

They are using "financial engineering" to repackage commercial property loans into REITS to prevent them from having to take further losses.

The strategy will rely, to some extent, on the "greater fool" theory.


U.K. banks may transfer commercial property loans into real estate investment trusts to purge their balance sheets of debt and avoid future writedowns.

Banks are considering using REITs as publicly traded “exit vehicles†that could limit the losses they and their borrowers face, said Ian Marcus, head of real estate at Credit Suisse Group AG. The British Property Federation has recommended the idea to the government as a solution for state-owned banks weighed down by real estate loans, said Peter Cosmetatos, the London-based industry body’s finance director.

“It’s obviously being considered by all relevant parties because the sector needs to recapitalize and that is one methodology of doing so,†Marcus said in a telephone interview. The concept is in its early stages, he said.

Banks are saddled with 227 billion pounds ($371 billion) of loans against U.K. shops, offices and warehouses after funding the real estate boom that ended in 2007, according to research by De Montfort University in Leicester, England. About 100 billion pounds of the loans expire in the next three years, according to BNP Paribas. The values of the buildings they are secured against have declined by an average 44 percent from their mid-2007 peak, according to London-based Investment Property Databank Ltd.

Options being considered include the creation of new REITs that both the bank and borrower could agree to sell properties to. Banks could waive some of their debt in return for a share of any gains a borrower makes through a listed company, said David Ryland, a partner at law firm SJ Berwin LLP who helped develop the U.K. REIT legislation that took effect in 2007. Banks could potentially own stakes in the REITs.

‘Exit’ Needed

Financial firms using REITs as exit vehicles “is something that people are looking at,†said Ryland. “There will need to be an exit for distressed portfolios, although some of the properties may need to be improved before they are suitable for such vehicles.â€

Another possibility is the transfer of loan books into mortgage REITs, which the U.K. doesn’t yet allow. The BPF said it was preparing to push for a change in that legislation in the coming months.

“Allowing mortgage REITs would seem a natural and sensible way for REITs to help banks reduce their exposure to real estate and recapitalize the sector,†said Cosmetatos in a telephone interview.

Bank Holdings

U.K. banks with the most real estate loans are Royal Bank of Scotland Group Plc and Lloyds Banking Group Plc, according to a June 26 report from BNP Paribas. They both have about 97 billion pounds of outstanding loans against commercial buildings, the report said.

Leigh Calder, a spokesman for Lloyds, and Michael Strachan, a spokesman for RBS, declined to comment.

Banks with the largest state ownership have been taking part in the conversations about REITs, said Cosmetatos, without naming them. The U.K. government owns 70 percent of RBS and 43 percent of Lloyds.

RBS is keeping real-estate loans on its balance sheet rather than foreclosing on borrowers, as it hasn’t provided for the significant losses that would incur, Chief Executive Officer Stephen Hester said at a June 16 conference in London. Hester was CEO of British Land Co., the U.K.’s second largest REIT, until last year.

“We’ve been getting some tentative signs that there is interest, both at the Bank of England and the treasury, but the more detailed conversations haven’t happened yet,†said Cosmetatos.

Investor Opportunity

REITs have failed to match the market enthusiasm that preceded their U.K. debut in 2007. There are 21 U.K. REITs with a total market value of about 15 billion pounds, according to the BPF’s property information Web Site. Most have lost more than a third of their value since 2007. U.S. REITs flourished after the savings and loan crisis of the 1980s, as the tax- efficient vehicles were used to fund the purchase of institutions’ real-estate holdings, often at low prices.

“It makes perfect sense,†said Nan Rogers, a London-based real estate investment trust analyst at Arbuthnot Securities Ltd. “There isn’t much stock available because banks have been hanging on to it all, and this is an opportunity for investors to take stakes in properties that have the potential to be worked.â€

Edited by LuckyOne

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