“EU banks back in infrastructure loan zone” was the recent Financial Times headline describing the apparently phoenix-like resurgence of banks in Europe’s project finance market. As an example of the trend, the article pinpointed a recent £2.2 billion (€2.7 billion; $3.7 billion) loan from a collection of banks for construction of rolling stock for the UK’s £5.7 billion East Coast rail project.
This serves as a reminder of the prominent role played by banks in the project financing heyday before the global financial crisis, and prompts considerations of whether they might once again assume a dominant position. Another, related consideration is whether their mooted revival is being hyped.
Infrastructure Investor has spent some time recently talking to a number of banking professionals about infrastructure lending and from these discussions we conclude that they consider themselves ‘back in the game’. Not least, there is a widely held view that they have absorbed the necessary impacts from Basle III guidelines on capital requirements and are now able to face the future with more confidence having taken whatever action was needed to address liquidity issues.
Interestingly this new-found confidence comes at a time when institutional investors – which have been touted post-Crisis as the future of project financing – have not yet overcome their own regulatory concerns. For insurance companies, in particular, the Solvency II directive still appears to position some fairly high hurdles in the way of long-term infrastructure investment.
This is all rather ironic since the banks – having concluded that the writing was on the wall post-Crisis – moved to adjust their business models accordingly. No longer would they “buy and hold” by taking large positions onto their own balance sheets (or perhaps syndicating to a small group of peers). Recognising the appetite of institutions for long-term investments that would match their liabilities, banks – ever the opportunists – would from now on “arrange and distribute”, transferring their short-term positions to the institutions and making their money on fees and ancillary services.
But how much is really likely to change? Is the new model simply to be dumped for the old one? It seems unlikely, and few people we have spoken to believe that the market is about to perform a sudden u-turn. Developing the new relationship between banks and institutional investors has involved the expenditure of much time, effort and resource – and it’s beginning to pay dividends (excuse the pun).
The banks are nothing if not innovators and have responded to strong secondary market appetite by creating some very clever investment vehicles to enable transference of ownership from bank to institution. No-one appears to be in the mood to scrap all this turn the clock back to 2007.
Nonetheless, changes can be observed that clearly reflect a growing bullishness from the banks. For example, tenors are often being extended from a typical five or 10 years to as much as 15 years (even 20 or more years in a few cases) and the number of participants in deals is being trimmed as individual banks are prepared to take larger positions.
Furthermore, competition is growing more intense and has been squeezing margins fairly substantially over the last year or so. One professional we spoke with predicted that the vast majority of European banks that pulled out of the project finance market in the wake of the Crisis will be back again within the next few years. They continue to see it, after all, as a potentially lucrative business line.
The stretching of tenors could, in theory, see banks in a more competitive than cooperative stance in relation to institutions than we have seen over the last few years. It could be seen as a partial land grab (or ‘re-grab’). However, this is only applicable at the margins. The institutions are fundamentally more conservative than the banks and common sense dictates that they should rightfully be the holders of very long-dated, de-risked positions.
One further observation is that, at the current time, the bank ‘revival’ is being thwarted by lack of deal flow. As economies continue to recover, so too should the deal pipeline. Then we should see the banks return in numbers, along with the evidence of how much risk appetite they have these days.