US CRE losses drag Deutsche Pfandbriefbank to lowest-ever profit

Deutsche Pfandbriefbank AG, a specialist commercial real estate lender in Germany with a high exposure to the US market, has posted its lowest profit on record due to write-offs in its US property book.

The lender, which has been the most shorted European bank stock in recent months due to worries over its commercial real estate (CRE) book, reported a net profit of €91 million for 2023, less than half of the €187 million booked a year ago and its lowest since its inception in 2015, S&P Global Market Intelligence data shows.

Deutsche Pfandbriefbank (PBB) was spun off from property group Hypo Real Estate, which was nationalized by the German government during the global financial crisis. Office properties account for 51%, or €16.7 billion, of PBB's overall real estate book, and half of its office portfolio is in the US, bank records show.

In 2023, PBB downgraded the value of its performing US portfolio to €4.5 billion from €4.7 billion, while nonperforming assets in the US rose to €607 million from €301 million the year prior.

Total nonperforming loans (NPLs) in its German property portfolio also surged to €404 million from €114 million. NPLs in PBB's whole property book nearly doubled year over year to €1.54 billion from €835 million.

The bank hiked risk provisions to €212 million in 2023 from €44 million in 2022 due to real estate finance concerns. It also suspended its dividend to preserve capital, a move CEO Kay Wolf described on a March 7 earnings call as "appropriate at this point in the [real estate] cycle and given the uncertainty that is still out there in the market."

The decision on dividends was PBB's alone and was not mandated by regulatory authorities, said Wolf, who took over as CEO on March 1. PBB wants to remain attractive to shareholders and resuming distributions would be a "key consideration" for the bank, yet it is too early to say whether that would happen in 2024, the CEO said.

PBB's common equity Tier 1 (CET1) ratio fell to 15.7% at the end of 2023 from 16.7% a year ago, but the bank said it still has a 600 basis-point capital buffer above minimum requirements. It also "currently comfortably meets the conditions" to pay coupons on its additional Tier 1 notes — financial instruments designed to bail in a bank if it runs into trouble. PBB aims for a CET1 ratio of 14% or above in 2024.

US exposure

Wolf ruled out exiting the US, even as the bank expects further price drops in the property market over the first half of 2024, with more moderate declines in Europe.

"A further 20% decline in prices for US office real estate would trigger potential additional losses of approximately €100 million. This is covered by loss allowance of €121 million already recognized, including the management overlay," PBB said.

PBB has put an additional management overlay of €31 million for the country and considers the portfolio at risk "well covered with our current provisioning levels," Wolf said.

PBB will continue to actively manage risks in its portfolio in 2024 as it navigates the cyclical low in the market, Wolf said. "By proactively managing workouts and restructurings, we were able to limit NPL increase in our US portfolio [in 2023]."

Strategy adjustment

Wolf said he does not regret joining PBB during what the bank has described as the worst real estate crisis since the global downturn in 2008. "I will contribute to sustainably strengthening PBB's future viability and have no doubt that specialized lenders such as PBB will have a key role to play in the future as well," Wolf said.

Yet the CEO stressed that PBB needs to do "some things differently" and aim to diversify its income sources "to a much greater extent."

"While the PBB 2026 strategy already has the right thrust, I will take the time to discuss modification and adjustments together with the management board team," Wolf said. Further details on the strategic repositioning will be provided at the release of PBB's results for the first half of 2024, scheduled for Aug. 14.

The bank expects its 2024 results "to be significantly higher than in 2023," aiming at operating income of €525 million to €550 million and lower loan loss provisions for the current financial year.

Shares in PBB were trading about 2% higher in morning trading in Frankfurt March 7. The bank's share price has dropped more than 55% over the past 12 months.