value gap is a hygge mugger for bank stocks

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Financial regulators have delivered a warning to Swedish property groups built on borrowings. High interest rates and falling valuations mean that a debt pile of $143bn needs to shrink or it may drag the sector down. Refinancings, equity raises and forced sales are therefore perils besetting commercial real estate owners and banks that lend to them.

Sweden is not unique in its affliction. Property is sending shudders through other parts of Europe as higher rates take their toll. The Signa Group of Austrian entrepreneur René Benko is unwinding, with units filing for insolvency or expected to do so.

Switzerland’s Julius Baer confirmed some SFr600mn of exposures to Signa Group earlier in the week. Sweden is calmer, but bank investors may still suffer a rude awakening.

Surprisingly, reported property values in Sweden have only fallen 6 per cent since last year’s peak. Further declines are inevitable. Stock markets have marked the sector down by about a half. 

Reported values are resilient simply because valuers do not have transaction data to price accurately. But estimates by the Swedish Financial Supervisory Authority suggest property yields should be at least 150bp above their current level of 5 per cent. Values would need to fall at least another 20 per cent assuming rents remain unchanged to reach that level.

Local lender Handelsbanken has the largest exposure to commercial real estate, accounting for about one-third of total loans. The quality of the book has been falling steadily. But provisioning remains limited and loan coverage has risen more slowly this year.

Banks say loans have strong collateral. But recovery values remain untested and are likely to be much lower than expected. A downward spiral in property prices is a real threat.

Nordic banks remain some of the best capitalised in Europe. Common equity tier one ratios are around 20 per cent. But premium valuations reflect that. Shares trade one-quarter higher relative to book value than in the rest of Europe. Sweden’s outsized and precarious property sector is a threat to that.