Real estate financiers are no strangers to Basel (most recently versions III and IV), a regulatory shift that is an ever-evolving puzzle and a generational opportunity. Born in the aftermath of the 2008 financial crisis, its aim to enhance global financial stability is undeniable, but stability often comes with a price. That price is, rightly, proportionately more heavily paid by systematically essential institutions. In turn, opportunities are created as said institutions retrench and retreat.
With its three key pillars – improved capital adequacy, stricter liquidity requirements, and enhanced leverage controls – Basel III reshaped the financing landscape, and Basel IV is building on these initial changes. While concerns linger over riskier mortgage markets, the mid-market real estate sector finds itself at the heart of the storm, grappling with its unique financing demands.
Even though full implementation of the adjusted regulations has been delayed, initially slated for 2025–2026 but recently delayed until 2027 (with a four-year rollout), the ripples of Basel III and IV are already being felt. Funding gaps are emerging, creating a challenging environment for midmarket projects to secure the capital they need.
In a landscape of change, the question isn’t whether there’s a financing gap – it’s how you plan to capitalise on it. We believe the answer is clear.
Basel III: Unpacking the Key Regulations
The fact that the Basel Committee on Banking Supervision consists of 45 members from 28 jurisdictions worldwide, including central banks and regulators, highlights its power and influence (and complexity). With a history that goes back to 1988, when the Basel Accord first established minimum capital requirements for internationally active banks, it is safe to say that there has been a series of catch-ups in the years since.
Ultimately, Basel III aims to create more secure foundations for international banks to avoid a repeat of the 2007/8 financial crisis. However, effectively de-risking the global banking sector has created a significant gap in the market, with mid-market real estate suffering more than most.
Before proceeding, let’s recap the main components of Basel III concerning capital adequacy, liquidity, and leverage.
Capital Adequacy Ratios
Under the new regulations, banking exposure will be considered using a risk-weighted assets (RWAs) formula. As a consequence of the changes, the capital adequacy ratios would be as follows:-
- Common equity tier 1: At least 4.5% of RWAs
- Tier 1 capital: At least 6% of RWAs
- Total capital: At least 8% of RWAs
Due to the 2.5% capital conservation buffer, the minimum capital adequacy ratio is at least 10.5% of the RWA exposure. The requirement for additional capital limits the ability of tier-one institutions to extend credit without increasing interest rates to maintain an acceptable return on equity. Consequently, competing with alternative lenders in this space is more challenging.
Liquidity Requirements
There are two factors to consider under liquidity requirements:-
Liquidity Coverage Ratio (LCR)
Banks are obliged to hold enough high-quality liquid assets to cover cash outflows for 30 days. The aim is simple: to ensure that banks have sufficient liquidity to meet short-term needs in the event of market shocks.
Net Stable Funding Ratio (NSFR)
To reduce reliance on short-term wholesale markets, the NSFR ensures that banks have enough stable funding relative to their long-term assets and liabilities. This takes into account both available stable funding and required stable funding.
Leverage Ratio
This is the key ratio as regulators look to de-risk the banking sector by reducing leverage. However, it is based on total assets rather than RWAs. The leverage ratio must be above 3%, which means that for every €1 million of exposure, there must be at least €30,000 in capital.
Basel IV: A Further Tightening of Regulations
While we await confirmation of the date for full implementation of Basel regulations, the introduction of Basel IV further increases the regulatory burden. It builds on Basel III by standardising risk assessments, tightening RWA calculations, and introducing a new (controversial) output floor. Basel IV also places greater scrutiny on Significant Risk Transfer (SRT) transactions, a tool banks use to offload credit risk to third parties and optimise capital.
The introduction of the output floor will ensure that internally calculated RWAs cannot fall below 72.5% of what would be calculated using standardised approaches. Combined with stricter oversight of SRT structures, this will increase the cost of riskier-based bank lending and further limit banks’ ability to manage capital efficiently. These changes will effectively create additional opportunities for private credit to meet the growing demand for finance.
Implications for Real Estate Lending
The tightening of leverage and capital requirements under Basel III and IV has reduced the appeal of speculative real estate finance. While banks continue to favour lower-risk, high-value real estate projects, mid-market developments – which often require complex and bespoke financing – face increasing challenges.
Many mid-market projects now fall outside banks’ stricter risk profiles, leaving private credit investors as a critical funding source. Unlike banks, private credit firms can provide flexible, tailored solutions without the burden of capital reserve requirements. This enables them to offer asset-backed financing with competitive returns for investors.
For traditional banks, the regulatory changes reduce the breadth of their lending activity but improve loan book quality. Meanwhile, the gap they leave creates significant opportunities for private credit providers to deliver the capital mid-market developers need.
A Changing Landscape for Bank Lending
Delays in Basel III implementation (now expected by 2027) haven’t stopped banks from reassessing their risk appetite. The mid-market commercial real estate sector is already feeling the effects, with stricter capital requirements making many projects unviable for traditional lenders.
Key challenges include:-
- Increased risk weighting for real estate loans: Mid-market projects, often seen as high-risk, require banks to hold significantly higher capital reserves, reducing their profitability.
- Pressure on liquidity ratios: Basel III’s liquidity requirements push banks to prioritise short-term, low-risk loans, leaving little room for long-term real estate commitments.
- Shift towards institutional deals: Banks favour high-value, stable projects with institutional clients, further sidelining innovative mid-market developments.
These challenges are creating a widening funding gap for mid-market developers – a gap that private credit providers are already filling.
Private Credit: A New Frontier for Mid-Market Real Estate
Private credit firms are uniquely positioned to address the growing funding gap in mid-market real estate. Unlike traditional banks, private credit investors can:-
- Offer bespoke, asset-backed financing solutions tailored to developers’ unique needs.
- Operate without the constraints of Basel capital reserve requirements, allowing for greater flexibility.
- Provide competitive yields for investors, often achieving double-digit returns compared to the 5%-7% offered by traditional lending.
For example, a mid-market developer struggling to secure funding for an eco-friendly housing project may find private credit an ideal partner. With the ability to provide tailored financing aligned to the project’s lifecycle, private credit firms enable developers to move forward while offering investors secure, asset-backed returns.
Bridging the Mid-Market Financing Gap
Basel III & IV has reshaped lending practices, creating significant challenges for mid-market developers, such as:-
- Higher capital reserves: Some high-risk real estate loans now require banks to hold capital equivalent to 250% of loan exposure, making such projects uneconomical for banks.
- Stricter creditworthiness requirements: Many mid-market developments lack the cash flow or profitability to meet traditional banks’ criteria.
- Reduced appetite for non-core real estate: Banks are focusing on institutional-grade investments, leaving smaller, innovative projects without funding.
Private credit is bridging this gap by offering flexible, asset-backed solutions. These arrangements reduce developers’ financing costs and mitigate risks for investors, making them a win-win for both parties.
Higher Borrowing Costs and Reduced Leverage: The Basel Impact
Basel regulations are driving banks to adopt a more short-term approach to risk and lending, leaving long-term real estate developers in a difficult position. Unlike banks, developers must commit to projects with minimal returns in the early stages but significant long-term potential.
Higher Capital Reserves
While Basel III applies to banks with $100 billion or more in assets, its impact is felt throughout the financial ecosystem. Experts estimate that capital requirements could rise to as much as 20%, forcing banks to impose higher borrowing costs on developers. This further reduces access to affordable financing for mid-market projects.
Loan-to-Value Ratios (LTV) and Risk Weighting
Basel III assigns risk weightings based on the LTV ratio of individual loans:-
- Low LTV ratios (<50%): Risk weighting between 20%-35%.
- Moderate LTV ratios (50%-80%): Risk weighting increases accordingly.
- High LTV ratios (>80%): Risk weighting could rise to 100% or more, with some non-traditional structures reaching 200%.
For example, a high-LTV project might require banks to hold 200% of the loan amount in capital reserves, making these loans prohibitively expensive and unattractive.
Delays and Stifled Growth
Basel III’s stringent requirements mean banks face:-
- Extended approval times: More hoops for developers to jump through to secure funding.
- Reduced liquidity: Long-term real estate projects don’t align with Basel liquidity rules, making banks hesitant to commit.
These barriers lead to project delays, higher risk premiums, and stifled growth for the mid-market real estate sector.
A Shift to Alternative Financing
Before the rise of private credit, developers often turned to expensive funding sources, sacrificing equity or long-term profits to move projects forward. Now, private credit offers a nimble and cost-effective alternative. With no capital reserve requirements, private credit providers can:-
- Offer tailored, asset-backed financing at competitive rates.
- React quickly to market movements, bypassing the bureaucratic delays of traditional banks.
By stepping into this gap, private credit is not just an alternative – it’s becoming a lifeline for mid-market developers navigating the challenges of Basel III.
The Broader Economic Impact
The shift away from traditional bank lending has significant implications for local economies and supply chains:-
- Delays in real estate development: With banks stepping back, many mid-market projects are experiencing funding delays, stifling economic growth in local areas.
- Strain on supply chains and contractors: Reduced development activity impacts contractors and suppliers, increasing project costs and lowering profitability.
- Pressure on alternative financing: Developers are increasingly turning to private credit for affordable, asset-backed funding solutions that reduce upfront costs and ensure timely project execution.
By stepping into this gap, private credit investors are not just funding projects – they’re driving economic recovery and supporting innovation in the mid-market real estate sector.
Explicit Links to Basel’s Regulatory Framework
There will be speculation and counter-speculation until Basel III and IV are fully incorporated, which could take over four years from their introduction. What we do know is it will impact:-
- Capital buffers and lending capacity
- Prohibition of speculative lending practices
- Shift toward safer asset classes
- Liquidity management constraints
Private credit investors are already stepping forward as traditional and non-traditional institutions step back from the more risky end of the real estate market. The use of private debt is expected to become a multitrillion-dollar business over the next decade, set to take over areas that traditional banks historically dominated.
Emerald Peak: Tailored Solutions for Mid-Market Real Estate
As a private credit firm specialising in asset-backed finance for mid-market real estate, Emerald Peak was prepared for the impact of Basel III long before its informal introduction. Our expertise lies in delivering flexible, bespoke financing solutions to developers, particularly in Scandinavia and Germany, where opportunities for private credit continue to grow.
What Do We Offer?
Emerald Peak provides developers with affordable, asset-backed financing to lower borrowing costs and improve project viability. Our tailored lending structures are designed to meet mid-market real estate operators’ unique needs, ensuring access to the capital required to bring innovative projects to life.
Key benefits of working with Emerald Peak:-
- Agility and Speed: Without the capital reserve requirements imposed on traditional banks, we can act quickly to deploy capital and make decisions.
- Expert Risk Management: Our ability to move fast is underpinned by a deep understanding of risk, ensuring consistent returns for investors.
- Investor Growth: As interest in private credit grows, we continue to expand our capacity to meet demand while delivering value to both developers and investors.
With Basel IV further restricting traditional banks’ lending activity, we are stepping forward as a trusted partner for developers seeking capital.
Geographical Focus
While we operate across Europe, we have deep expertise and focus on Germany and Scandinavia, regions aligned with EU banking directives and adhering strictly to Basel III and IV. These markets present strong opportunities, particularly for eco-friendly and sustainable developments, as traditional banks scale back lending in these higher-risk categories.
As regulatory frameworks evolve across Europe, we remain confident that new opportunities will emerge in underserved regions, allowing us to expand our impact further.
Commitment to ESG and Sustainable Investment
What was once seen as a trend – ESG and sustainable investment – is now a central focus for the real estate sector. Significant restrictions now apply to developers who fail to align with global ESG guidelines, making sustainability a priority in securing financing.
At Emerald Peak, we are committed to ESG principles, focusing on:-
- Long-term value creation: Supporting projects that contribute to sustainable growth.
- Risk-adjusted returns: Balancing investor value with responsible investment practices.
- Energy efficiency: Prioritising energy-efficient, low-carbon developments with renewable solutions.
- Affordability: Financing affordable, high-quality housing with environmental and social sustainability.
This approach resonates with private credit investors and enables us to expand funding levels while driving meaningful change in the real estate industry.
Basel III/IV: Amplified Effects in Scandinavia and Germany
Scandinavia and Germany are deeply aligned with EU banking directives and adhere strictly to Basel regulations. Historically, these regions have maintained benign risk environments, with many banks exceeding minimum capital adequacy ratios. Basel has introduced new challenges that are already reshaping the mid-market real estate sector.
Banking Culture and Constraints
The conservative banking cultures of these regions, including scepticism towards high leverage, further compound the constraints introduced by Basel III and IV. In Germany, traditional banks are shifting their focus toward financing significant, low-risk urban developments, leaving smaller, underserved cities behind.
Similarly, Scandinavia’s growing emphasis on sustainability and green development projects has heightened the perceived risk for traditional lenders. While innovative and forward-thinking, these projects often face additional capital reserve requirements, leaving the mid-market real estate sector as unintended collateral damage in the pursuit of financial stability.
Opportunities for Private Credit
Amid these challenges, private credit is emerging as a critical solution for developers in both regions. Unlike traditional banks, private credit investors are:-
- Financing underserved areas: In Germany, this includes smaller cities and ambitious projects that would otherwise struggle to secure bank funding.
- Driving sustainability: In Scandinavia, private credit allows developers to finance eco-friendly and green building initiatives that banks consider higher risk.
By stepping into these gaps, private credit is enabling the real estate sector to innovate and grow, even under the tightened constraints of the Basel regulations.
Encouraging Innovative Financing
Innovative financing arrangements have long been a driver of mid-market real estate, particularly in these regions. While traditional banks view such structures as risky and non-standard, private credit investors recognise their potential to unlock value.
As Basel III continues to reshape the lending landscape, private credit is empowering developers to:-
- Negotiate structured funding arrangements tailored to their project timelines.
- Explore new opportunities in sustainability-focused projects and regional developments.
While Basel may discourage (or eliminate) innovative financing in the short term, private credit is filling the gap by offering developers the tools they need to succeed in a more restrictive environment.
Private Credit and Basel Regulations: A Symbiotic Future
The obsession with securing the global financial framework is creating a number of underserved sectors. Ironically, while private credit is expected to facilitate much of this additional funding requirement, some borrowers will be pushed towards high-risk, non-traditional financing. As regulators look to protect the broader financial framework, it seems that some areas are viewed as potential collateral damage in the event of another financial crisis.
Private Credit’s Alignment with Basel III & IV
Whether due to overregulation or casino banking in years gone by, the traditional banking sector today is paying the price. While private credit has no direct link with Basel III and IV regulations or the framework, it’s interesting to see how it is aligned with the principles:-
- Risk mitigation
- Financial stability
Private credit is becoming a more critical element of the broader financial sector, as it also addresses underserved markets and finances today’s “more risky” investments.
Don’t overlook the fact that many mid-market commercial real estate projects funded by private credit today may become more established and move on to traditional finance in the future. We assume that regulators and traditional bankers have not missed the irony here!
It’s fair to say that private credit arrangements should not be seen as competing with traditional finance but as a complimentary service, a route to market if you like.
Conclusion: Navigating the Basel Era
Basel III and IV are transforming the financial landscape, creating challenges for mid-market real estate developers and significant opportunities for private credit investors. By stepping in where traditional banks retreat, private credit firms are filling the funding gap and enabling innovation and growth in the sector.
Whether you’re a developer seeking flexible financing or an investor looking to capitalise on high-yield opportunities, private credit offers a tailored solution to meet your needs. Contact us today to explore how we can help you achieve your goals in this evolving market.
