[Financial Report] Non-Bank Overseas Alternative Investments Concentrated in Commercial Real Estate... 'Concerns Over Losses'

Bank of Korea Releases Financial Stability Report
Commercial Real Estate Share at 37.3%
Systemic Risk Transmission Possibility Limited

It has been found that non-bank financial institutions' overseas alternative investments are heavily concentrated in commercial real estate. As commercial real estate prices in major countries have reversed to a downward trend since the second half of last year, there is an analysis that risk management by investment institutions needs to be strengthened.

According to the Financial Stability Report released by the Bank of Korea on the 26th, the sector with the highest proportion among overseas alternative investment targets of non-bank financial institutions was real estate, mainly commercial, accounting for 37.3%. The Bank of Korea pointed out that commercial real estate prices in the US, Europe, and China, which had been steadily rising, turned to a decline from the second half of last year, and expressed concern that "if commercial real estate prices in major countries fall further or recovery is delayed for a long time, the scale of losses may increase, especially for financial institutions with a high proportion of subordinated and equity investments."

The scale of subordinated and equity investments in commercial real estate, which is relatively higher risk, was found to be higher in securities companies and insurance companies compared to other sectors. The Bank of Korea explained, "In the event of a decline in overseas commercial real estate prices, the ratio of subordinated and equity investments, which carry relatively higher risks, to capital is higher in securities companies (8.8% of capital) and insurance companies (5.5%) compared to other sectors (0.8% to 2.9%)." Senior investors can minimize investment losses by selling collateral even when real estate prices fall, but subordinated and equity investments carry a higher risk of loss than senior investments.

According to the report, the scale of overseas alternative investments by non-bank financial institutions was estimated at about KRW 135.2 trillion as of the end of June. By sector, insurance companies accounted for KRW 90.1 trillion (7.8% of total assets), securities companies KRW 21.2 trillion (3.8%), the National Federation of Mutual Savings Banks KRW 19.2 trillion (1.9%), specialized credit finance companies KRW 4.4 trillion (1.7%), and savings banks KRW 300 billion (0.4%). By investment region, North America accounted for the largest share at 45.8%.

Asset soundness regarding overseas commercial real estate investments has deteriorated in major sectors. As of the end of June this year, the ratio of non-performing loans or below for overseas commercial real estate investments was highest in securities companies (23.6%), and increased in insurance companies (18.2%) and mutual savings banks (9%) since the end of 2022.

Regarding maturity status, the amount of overseas commercial real estate investments maturing within one year is largest in securities companies at KRW 3.2 trillion, and some of these have experienced soundness-related issues such as loss of interest (EOD), suspension of interest/dividends, adjustment of investment conditions, and construction delays or stoppages.

The Bank of Korea stated, "Considering the investment scale and loss absorption capacity of non-bank financial institutions, even if the deterioration of overseas alternative investments intensifies in the future, the possibility of transmission to systemic risk is limited," but also pointed out that "for securities companies with a large amount of investments maturing within one year, it is necessary to minimize negative impacts on the domestic financial system through adjustment of investment conditions with senior investors and extension of maturities."