The outbreak of COVID-19 has impacted all corners of the globe — politically, socially, and economically. The impact has created both small and large ripples throughout the world, influencing everything from our hygienic habits to global economies. Along with these changes follow a huge influx of distressed debt, which will have a lasting impact on NPL Markets both domestically and internationally.
The new flood of distressed and criticized debt opened up new opportunities for all players in the NPL market: buyers, traders, and sellers have all been leveraging technology such as debt trading marketplaces like Metechi to meet growing demands. The impact of COVID on NPL markets brings both advantages and disadvantages, which we will analyze in this article.
The Zombie Effect and Enduring Consequences
International response to COVID-19 has been to quarantine and restrict social and economic activity. With this response, many countries suffered economic stagnation, indicated by trends in the NPL markets. Due to the slow-moving nature of NPL markets, many of the sales in the US and Europe prior to COVID originated from the 2008 financial crisis. COVID has only exacerbated the already lengthy offloading process.
While banks saw an increase in criticized and non-performing loans in 2020, current forecasts signal that things won’t be as dire as initially predicted.
A big factor may be due to the zombie effect, where firms are kept artificially alive by government support (one example would be the $1.9 trillion stimulus package that recently passed in the U.S.), and long grace periods that allow more time for loans to go bad.
As more of these firms fail to bounce back and are forced to declare bankruptcy or dissolve their assets, credit losses will increase, which will inevitably lead to a slower, steady supply of NPLs.
The imminent NPL growth in the US and Europe
Despite the slow response time, the pieces have fallen into place and things have been set into motion. According to PwC, it is estimated that around $180 billion USD in NPLs will be traded in the next two years, with most coming after 2021. Majority of the trades in 2021 are expected to be legacy debt, with more to follow in the near future. The ECB put out an estimate that in the worst case scenario, we may see as much as $450 billion in NPLs in banks’ balance sheets before next year, indicating the skyrocketing of sales in the following few years.
In the US, commercial real estate NPLs may dominate the scene. CRE was one of the most severely affected sectors, and one that is least likely to rebound in the post-pandemic world. Many offices, if they have the capacity to do so, are deciding to stay virtual or even semi-virtual, even after it becomes safe to return. This presents a death blow for the traditional office-space economy, as more companies find ways to save money by utilizing digital tools to refrain from commuting and working in a shared space.
While this is unfortunate news for many companies in the CRE sector, it presents a huge opportunity for CRE debt markets, as forecasts show that the US CRE sector alone is forecasted to reach $320 billion in distressed debt in the next 5 years.
Moving Forward — The Big Picture
While things may not come to pass as forecasted in the aforementioned timeline and the future may bring alternative results, the pandemic will likely bring significant growth in NPL sales. The effects of COVID-19 will last for years to come as companies and banks alike attempt to recover from the pandemic.