The Swiss banking sector has committed to tighter minimum standards for origination and amortization of investment property loans from Jan. 1 as it seeks to avoid new regulatory requirements in the run-up to the implementation of the final Basel III capital rules in 2022.
In August 2019, the Swiss Bankers Association proposed guidelines for investment property loans, in response to the financial market supervisory authority FINMA's concerns. Given the heightened risk of a real estate market correction, the Swiss regulator has warned that it could frontload some of the final Basel III rules, increasing risk weighting on mortgage loans.
The record low interest rates in Europe have sent investors chasing yield in the real estate market and activity there has been heating up despite rising vacancy rates and falling rents, FINMA said in its risk monitor for 2019. This will result in rising property prices and declining initial yields on investment, the regulator said. In this environment, there is a higher risk of a sharp fall in valuations if interest rates rise and loan-to-value guidelines being breached, the FINMA warned.
The banking sector self-regulation addresses FINMA's leverage concerns. Under the new rules, mortgage loans will be amortized to a maximum loan-to-value of 66% for the term of 10 years, compared to 15 years previously. The maximum LTV ratio on newly originated loans for residential and commercial investment properties has been cut to 75% from 90% previously.
This is likely to reduce credit risks for Swiss banks as historically about a third of such loans have had LTVs of 75%, Moody's said in a note Jan. 6. Nevertheless, the self-regulation would be less effective than a front-loading of the Basel III risk weighting as it will only apply to new loans rather than the entire loan book.