Loan Book Commentary: Q2 2024

Loan Origination

The end of June 2024 saw Pallas Capital crack through $2 billion of total loans under management. A mighty milestone for the team and our best is still in front of us!

Since the end of the quarter we have refinanced our bank facility in New Zealand, with Westpac now being our primary funder in that market. Our revised loan warehouse has a wider lending mandate and a significantly lower cost of funds.

Another significant quarter in loan originations with a total of $424.1 million of new loans settled in Q2 2024. Following on from a strong start to the year, the past two consecutive quarters have seen a total of over $750 million in new loan settlements.

We settled 60 new loans in the quarter, with a total of 44 first mortgage loans and 16 second mortgage loans. The loan book remains highly granular with low concentration risk.

Over the quarter a total of $181.7 million (by limit) of construction loans were settled, representing approx. 43% of total settlements which is in line with the whole portfolio ratio.

Our New Zealand business has now become a significant contributor to the origination tally with $97.6 million of new settlements for the quarter. Since launching the NZ business in late 2022, we have settled a total of $343 million of loans in that jurisdiction.

Q2 also saw a significant amount of loan repayments with a total of $187.6 million repaid.

Market Outlook

The market remains cautious with new site acquisition activity still at very low levels for developers and investors. We remain watchful in our selection of site funding (pre-development and vacant land loans) and ensure that these loans have a strong exit position based on current-day feasibilities with good fundamentals.

Most of the settled loans for this quarter were refinances, with a lot of developers opting to push back project commencements.

Borrower demand remains high for construction lending and, whereas there was limited lender appetite for these loans in 2023, there is significantly more liquidity in the market as many existing construction loans reach completion and repay and non-bank lenders are looking to backfill their loan books.

Our loan book remains very short duration (8.17 months weighted average term to maturity), which allows us to continuously ‘mark-to-market’ our loans as they reach maturity and we decide which loans we wish to extend and retain and which we wish to exit.

The $187.6 million of loans that were repaid this quarter represents approx. 11.6% of the total loan book, which is significant turnover. Over the next two quarters of 2024, we have over $500 million of loans that will reach maturity and will undergo a credit valuation review of each loan where the borrower wishes to extend.

Valuation risk remains the silent killer of commercial real estate lending in this cycle of the market. Lenders can often hold onto impaired loan exposures as a result of the underlying asset value deteriorating, resulting in actual LVR positions far greater than when the loan was underwritten. Ensuring our underlying assets are marked to current day valuations remain a critical focus, and at present over 75% of the security assets in our loan book have been valued within the last 18 months.

Status of the Loan Book

At the end of the quarter, Pallas Capital has 40 construction loans and 173 other loans (including 43 in New Zealand) on foot. The loan book performance remained sound throughout the last quarter.

There are three defaulted loans in the portfolio (two existing from last quarter and one additional). These loans represent 0.83% of the total loan book (by value).

The first of these is a retail property in Queensland where the borrower has paid down the loan to a balance of less than $1 million; we expect to be fully repaid imminently. The other two exposures are both New Zealand loans secured against pre-development property in Auckland. In relation to the first of these, we have appointed a receiver who is running a campaign to sell the security property. In relation to the other, the borrower is in negotiation to sell the security property. In both cases, Pallas’ loan will be repaid in full.

In May 2024 a project builder (Stevens Constructions) under a Pallas Capital construction loan entered administration. Pallas Capital and the borrower have worked closely over the past two months to swap out the failed builder, recapitalise the project and agree on terms to extend the loan. The borrower and their project team have been exemplary and diligent in this process, and we expect works to recommence back on-site under an extended Pallas Capital loan facility in August 2024.

This has been another good reminder that builder failure remains a significant risk in the market and that it is essential when screening construction loans, to focus not only on the builder’s capacity to weather a storm but also on the ’developer’s capacity (both financial and operational) to withstand the inevitable cost and time delays if a builder failure occurs.

We are confident that all monies owing on these loans are well secured and will be recovered in full.

If you are looking to deploy capital into any of our current Open for Investment debt opportunities, please contact your Pallas representative or contact clientservices@pallascapital.com.au