Recently, there were two high-profile industry conferences. The overarching theme for both was the same: The market is flush again with capital and capital providers looking to lend. Several insights emerged from these two conferences, including:
Money is available. Life insurance companies believe they will lend $32 billion to commercial real estate—double what they invested in 2009.
Additionally, six new commercial mortgage? backed securities (CMBS) conduit lenders are taking applications and actively making loan quotes.
The market is broken into three tiers. Tier 1 is life insurance companies, which are seeking the highest quality deals with the best borrowers, the best products and the best locations. They will price loans accordingly—as low as 5.75 percent. Tier 2 represents the banks. Bigger and/or healthier banks will “reach up’ to Tier 1 and compete with life insurance companies when they can. Smaller regional banks, on the other hand, will reach down to Tier 3 and, accordingly, they will price higher. Tier 3 is made up of finance companies and conduits who can’t compete with these lenders—or who choose not to compete because of yields. However, capital and capital providers are actively financing again with an interest rate range of 6 to 8 percent.
Loan-to-value is no longer a driving force in underwriting. Lenders are uncomfortable with market fundamentals and therefore the question of the true value of commercial real estate. Lenders are underwriting against debt service coverage ratio and debt yield. Debt yield is the ratio of verifiable net operating income divided by the principal balance. Lenders want a debt yield number between 10 and 12 percent, down from 12 to 17 percent.
Apartments, office, industrial and retail are the primary property types of interest to lenders. There is some appetite for hotels and medical offices. There is light appetite for vacancy—in-place income is key. There is also capital available for the borrower who needs to improve a property but doesn’t have the necessary Funds– but it will be expensive.
Interest rates will be flat to lower in 2010, and, as the year progresses. Over the next three years, interest rates will rise.
Proceeds seem to be in the 60 to 65 percent range but competitive pressure throughout the year should move life insurance companies to 70 percent and CMBS conduits to 75 percent. There is an outside chance that by year-end, a momentum play will create venues in the 80 percent range.
Lenders are motivated to make new loans because doing so helps to mitigate the risks in their existing portfolios.
There seems to be no way to differentiate one capital provider from another. They think alike and seek alike. Working with an experienced financial intermediary can help ensure that lenders select the right deals with the right structures for the right reasons. Relationships will be important.
