Capital markets to fill project finance credit gap – report

An S&P report shows bank lending to project financing is dropping in the EMEA region. While banks are trying to find ways around the Basel III restrictions, a space is opening up for institutional investors.

A drop in project finance lending by banks across the EMEA region borne out of Basel III regulatory restrictions is likely to open up more space for institutional investors to fill the credit gap, a report from ratings agency Standard & Poor’s has concluded.

With demand for project financing increasing, bank lending is heading down with a 17 percent drop last year compared with 2015, according to S&P data.

S&P concluded that this was a result of the introduction of Basel III and soon-to-be-implemented further restrictions on a number of the leading financial institutions across Europe.

“The finalisation of the Basel III regulation … requires banks to meet stricter leverage ratios, and emphasises standard capital models rather than banks’ own models. This could mean a major increase in capital requirements for long-term project financing, including projects such as renewables and energy infrastructure,” S&P said.

A number of infrastructure debt funds have emerged over recent years to step into this gap. Edmond de Rothschild is expected to reach an interim close on its BRIDGE platform in the second quarter of 2017, while Macquarie and UBS Asset Management both held final closes on funds recently.

In response, banks have turned to selling loans under originate-to-distribute strategies to abide by regulatory capital requirements and finding buyers among institutional investor clients rather than other banks. Societe Generale and Natixis are the latest banks to move towards this structure.

The growth of “nonpayment insurance” (NPI) has been the latest trend in attempting to overcome the burdensome restrictions of Basel III, said S&P. NPI can cover a portion of the loan originated by the bank and is able to insure against the risk of default.

The popularity of NPI comes as they are less expensive than credit default swaps, but the instrument has its issues.

“NPI is primarily a way to transfer risk. However, some lenders warn that banks might see NPI only in terms of credit relief, which could allow banks to take on more risk than they should,” S&P said.