In the significant and highly active Significant Risk Transfer (SRT) market, investors are increasingly willing to provide hedges for the deteriorating commercial real estate loans held by European banks, a portfolio exceeding €200 billion (approximately $232.5 billion), but this protection comes at a steep price. Deutsche Pfandbriefbank AG (PBB), a German mortgage lender in distress that is urgently trying to offload its various exposures to U.S. commercial property debt, made its first foray into the SRT market in December. According to people familiar with the matter, this landmark deal clearly demonstrates that investors insuring high-risk commercial real estate loans can command exceptionally attractive spreads.

In the evaluation process for PBB's SRT transaction, over 20 institutions were initially invited to participate, with approximately two-thirds ultimately submitting non-binding offers, the people said. The core reason for this stronger-than-expected demand was the relatively small size of the reference loan portfolio—comprising fewer than 30 loans—and its high concentration in the U.S. office sector, with several loans already classified as Stage 2, indicating a significant increase in credit risk short of default.

The Garching-based bank officially announced on December 22, 2025, that it had finalized a deal with Oaktree Capital Management, part of Brookfield Group, to provide credit risk protection on a $2 billion loan portfolio. In this transaction, jointly led by Alvarez & Marsal Financial Services and Deutsche Bank, Oaktree further purchased $320 million of credit-linked mezzanine notes, creating a dual-layer risk mitigation structure for the high-risk assets.

According to the people familiar with the terms, the pricing for this SRT transaction was set at a spread of more than 15 percentage points over the benchmark lending rate. Data from Seer Capital Management, which has specialized in SRT investments since 2010, shows that most SRT deals over the past 12 months carried premiums of less than 10 percentage points.

Under the transaction terms, PBB retained a first-loss piece equivalent to approximately 3% of the total reference portfolio, the people revealed. Representatives for PBB, Alvarez & Marsal Financial Services, Deutsche Bank, and Oaktree all declined to comment on these arrangements.

Banks that secure default protection for loans through significant risk transfer mechanisms typically obtain risk coverage equivalent to 5% to 15% of the loan's face value. These transactions are often structured using credit-linked notes, which effectively boost capital ratios and reduce reliance on shareholder-unfriendly financing methods like issuing new shares or cutting dividends.

Concurrently, this mechanism provides banks with greater flexibility for capital deployment strategies, such as making new loans, pursuing mergers and acquisitions, or distributing dividends to shareholders. PBB formally announced the termination of its U.S. business in June last year, simultaneously launching a disposal plan for approximately €4.1 billion in U.S. commercial real estate loans, aiming to optimize its asset structure through portfolio runoff, securitization, or direct sales.

It is noteworthy that the reference portfolio involved in the SRT transaction completed last December accounted for almost half of PBB's total U.S. commercial real estate exposure at that time. While banks like NatWest Group and Aareal Bank have issued SRT products linked to commercial real estate loans, they have rarely used SRT as a systematic tool for exiting entire business lines.

The high-risk nature of SRTs means investors prefer banks that have an ongoing incentive to ensure the SRT performs well—institutions that will likely need to issue SRTs on similar loans in the future, creating a virtuous cycle of shared risk. In contrast, institutions that use SRT purely as an exit tool often struggle to gain long-term investor confidence.

Although European banks have significantly reduced their stock of non-performing loans over the past decade, regulators still view problematic commercial real estate exposures as one of the financial sector's greatest vulnerabilities. Data from the European Central Bank shows that large banks had €221 billion in commercial real estate loans classified as Stage 2 by the end of the third quarter of last year.

S&P Global Ratings assigns PBB a BBB- credit rating, the lowest tier within the investment-grade category. In November, S&P further revised PBB's rating outlook to negative, citing potential risks during the bank's business model transition, where borrower behavior could further weaken its profitability.