Property market smothered by 'gigantic' rate swap costs CBRE said the decline in long-term interest rates during the second half of 2011 had "significantly increased" the cost of breaking swaps and was now proving "a material factor" in the work-out strategies of lenders. Quantitative easing by the Bank of England to stimulate the economy has also affected break fees - if gilt yields fall there is an increase in the mark to market costs of long maturity swaps. In a challenging market, this is frustrating the recovery process as lenders try to deleverage their balance sheets. It also penalises other investors seeking to dispose of performing assets," said Philip Cropper, head of real estate finance at CBRE. The irony of this phenomenon is that swaps were intended as an instrument to protect investors from the risk associated with rising interest rates. However, at the peak of the market no one anticipated that we would enter such a prolonged low interest rate environment. Savills Commercial also warned the swap break fees were forcing a "very high proportion" of property sellers to sit on their hands until the swaps matured as any profit from a sale would be wiped out. "The unwinding of these swaps is absolutely gigantic," said William Newsom, UK head of valuation at Savills Commercial. He estimated that more than 90pc of bank lending secured against commercial investment property prior to 2009 was subject to a hedging product. In 2007 there were people who raised five-year loans but at the same time took out a 30-year swap. Don't ask me how it works but it's an extraordinary notion that you fix for periods longer than the loan," he said. He cited one former banker who had described the sale of these long maturity swaps as "a scandal." "In my mind, the overhang of swaps is probably the single largest drag on the market for distressed [and even non-distressed] assets at this time," the banker wrote. Robert Duncan, real estate analyst at Jefferies, said following the listed sector's £7bn recapitalisation in 2009, REIT (real estate investment trusts) balance sheets were strong enough to absorb any potential swap break costs. However, he added that private landlords that had been wiped out had little incentive to manage their assets, and shortening lease lengths are creating a potential ticking time bomb for banks. "The quality of the assets is being reduced as lease lengths shorten day by day," he said.