Insights: Private lending: When credit and real estate cycles diverge
8 May 2025
Written by Andrew Schwartz, Group Managing Director, Co-Founder and CIO of Qualitas.
Australia is at a stage where the real estate and credit markets appear to be moving in different directions
For decades, it has been assumed that the credit cycle and real estate cycle move in lockstep and in the same direction just as they did in the lead up to the global financial crisis.
In theory, credit expands, liquidity flows and real estate values rise. Then, as risk builds and lenders pull back, asset prices decline.
However, when the two cycles diverge, that’s when the private lending sector – the current talk of the town – corrects.
In Australia, deregulation in the 1980s opened the floodgates to new lending, particularly from foreign and merchant banks. Traditional Australian trading banks, constrained by regulation, launched their own merchant bank arms to compete.
Building societies and finance companies also entered the credit space. This shift forced lenders to make choices: compete on price, or take on more risk.
Some institutions opted for tighter pricing, while others extended credit to higher-risk borrowers.
For example, in the 1980s, I worked for a Japanese bank mandated to lend in Australia at Libor, the risk-free rate, less 25 bps, effectively resulting in a negative credit spread. It was a clear demonstration of how fiercely lenders competed to write large volumes of loan assets in Australia.
The result was a rapid expansion of credit and asset price inflation until the inevitable correction. Periods of strong real estate growth in the late 1990s and early 2000s built up underlying credit excesses.
By the time lenders recognised their exposure, it was too late and the damage had already been done. The GFC was the most extreme expression of reckless credit expansion, mispriced risk and a near-systemic collapse.
Yet even post-GFC, the lessons were short-lived. Regulation sought to temper risk, but new entrants, private credit funds and non-bank lenders, stepped in to fill the void. The dynamic continued; that is, competitive lending drives expansion until a correction is forced.
As liquidity builds through the recovery period, the credit cycle continues to wind up as each turn of a deal involves slightly more risk-taking and slightly less credit margin. It’s when this increasing risk intersects with a downturn in the real estate cycle that we often see corrections in private credit.
Different directions
Today, we find ourselves in such a critical phase. The real estate and credit markets appear to be moving in different directions.
On the real estate side, the market seems to be emerging from a multi-year contraction. The peak in interest rates now appears to be behind us, with early signs of monetary easing already underway.
This shift, combined with a chronic shortage of housing in Australia, is laying the foundation for a new development cycle, particularly in the residential sector. Moreover, in real estate equity markets, the most significant value corrections, particularly in office assets, appear to have already occurred.
With lower interest rates and reduced discount rates on the horizon, there is a growing case for a modest recovery in real estate valuations.
Yet, the credit cycle shows no such signs of easing. In fact, it appears to still be winding upward.
The number of private credit providers continues to grow, with many new entrants forming boutique fund management businesses or specialist lending platforms. The competition to deploy capital remains intense, leading some players to underwrite riskier loans at increasingly compressed margins.
Unlike the real estate market, which has absorbed its correction, the credit market has not yet experienced a clear contraction or reset. This timing creates a curious paradox. Lenders who have taken on greater risk in recent periods may now stand to benefit from an upswing in real estate values.
Structural mismatch
The greater threat lies in structural mismatches between asset and liability especially where medium-term loans are funded by short-term capital. In such cases, a liquidity crunch could force lenders into distressed asset sales or create cascading funding issues.
Compounding this risk is the potential for a broader loss of market confidence, which can emerge rapidly if impairments begin to surface across the sector. However, while the short-term credit cycle may present hiccups, it’s crucial not to confuse these fluctuations with the long-term opportunity of private credit in Australia.
The demand for private credit is not a passing trend – it’s a sign of an evolving capital market landscape.
Institutional capital has been steadily moving into the space, driven by predictable yield, asset-backed security, and alternatives to traditional fixed income.
However, investors and policymakers who continue to assume a predictable, linear relationship between credit and real estate will find themselves exposed when reality shifts.
As featured in Green Street News – Australia >
Disclosure
This communication has been prepared by Qualitas Securities Pty Ltd (ACN 136 451 128) (Qualitas Securities), holder of Australian Financial Services Licence number 342242. Qualitas Securities and its related bodies corporate and affiliates constitute the Qualitas group (Qualitas).
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