EPF, EPRA sound alarm over EU derivatives proposals

Proposed EU rules on derivatives could lead to serious property and debt market instability, two European property organisations have warned. The European Public Real Estate Association (EPRA) said the measures could take an estimated EUR 64.9 bn of working capital away from Europe's real economy as property companies are at risk of being required to collateralise their interest rate hedges with cash.

This is the main conclusion of a Chatham Financial study commissioned by the European property sector to assess the impact of the European Commission’s proposed Regulation on OTC derivatives, central counterparties and trade repositories released last month.

One of the proposed Regulation's core requirements is that businesses deemed to be 'financial' entities must post cash collateral into margin accounts to provide cover in the event of default.

'Non-financial' businesses, which use derivatives for hedging commercial risks associated with a normal operating business, are excluded from these requirements. However, EPRA is concerned that, property companies risk being misclassified as ‘financial’ and subject to onerous margin calls designed for entities which speculate with derivatives - rather than ordinary businesses that use interest rate swaps for risk management.

Gareth Lewis, EPRA Director of Finance said: 'Using interest rate swaps to reduce uncertainty associated with fluctuating interest rates is critical to property businesses because interest payments are often their single largest expense and funding is required over long time periods and different economic cycles.'

In its input to European Parliament Rapporteur Werner Langen on the European Commission's proposals, the European Property Federation pointed out that specific and precise modifications and clarifications are needed if the Alternative Investment Fund Managers Directive (AIFMD) is used to set the distinction between financial and non-financial businesses.

EPF stated that it should be made clear that the business of real estate development and investment is intrinsically non-financial. Real estate businesses create places, build and look after buildings and sell accommodation to the occupier market - their core business is to invest in land, buildings and places, not financial instruments, it said in a statement.