Every crisis has its winners and losers, and one asset class that came out on top after the global financial crisis was European non-performing loans. The events of 2008 prompted the largest-ever sale of loan books by the region’s banks – one that has yet to reach its end as we enter a new economic crisis prompted by covid-19.
A lot of money has been raised for distressed opportunities – much of it during the peak fundraising year of 2017, followed by another fairly substantial amount last year. This dry powder is waiting on the sidelines, ready to be deployed.
For specialist investors, the years since the GFC have offered unparalleled opportunities to buy up portfolios of bad loans and make them profitable. But with a new economic crisis underway, the question for investors is whether we will see a new wave of NPLs entering the market.
“This time, banks are in a pretty good place and, while there will be losses, lending standards have been pretty good recently”
The NPL market can be a slow-moving beast, and it is worth looking back to the last crisis to understand how the response to covid may create different conditions. One notable trend was that NPLs did not begin to appear on the market immediately. The delay was largely due to the poor position of banks’ balance sheets, but the current crisis is primarily a health crisis rather than a financial one and is thus very different in nature.
“Banks are in a pretty good place,” one source told us. “And while there will be losses, lending standards have been pretty good recently.” Banks are still trying to dispose of their stocks of NPLs from last time. The covid crisis has stalled some existing processes that will need to be resumed before new portfolios start to come to market.
Another factor likely to delay NPLs generated as a result of the current crisis is that it could be a long time before loans turn bad due to the unprecedented level of government support. There has been plenty of activity in certain areas – such as investing in dislocation opportunities on both public and private markets, and providing rescue finance to portfolio companies facing temporary liquidity issues. However, there are concerns that the liquidity boost delivered by governments and central banks may have distorted the normal distressed cycle. The ‘pure distress’ phase of the cycle – which normally delivers the highest returns – may therefore take considerably longer to materialise.
A new opportunity for NPL investors may be coming. It may also require a fair amount of patience.