The state of the debt market for commercial real estate

By Steven A. Kohn, Vice Chairman, President – Equity, Debt & Structured Finance, Cushman & Wakefield

How has 2017 been for real estate financing?

2017 continues to be a great year to be a borrower. Financing is readily available at virtually all leverage levels at attractive pricing. Low interest rates and an abundance of lenders have allowed much of the debt maturing in 2017 to be refinanced. The concern over the wave of maturities of loans originated in 2006/2007 proved to be unwarranted, with many being refinanced early. Additionally, the competitive debt market has supported attractive valuations for sellers.

Which lenders have been most active and on what profile of assets?

This liquidity in the debt market comes from the usual sources: banks, CMBS issuers and life insurance companies (LifeCos) – and from such newer entrants as debt funds and mortgage REITs.

These latter sources have raised significant capital to take advantage of the banks’ and LifeCos’ being more conservative on loan levels, particularly with respect to transition assets, new construction and properties in tertiary markets. They typically lend “stretch” (high-LTV) senior mortgages or mezzanine/preferred equity positions.

Notwithstanding their being more conservative, however, banks and LifeCos remain major players in lending on quality assets in major and many secondary markets.

How do borrowers procure a loan?

When accessing debt markets, borrowers may either work with existing lenders and prior relationships, or they can reach out to a wider market. In either case, they may involve an advisor/mortgage broker/real estate investment banker, or may try to manage the process themselves.

Investors with very large holdings and that are regularly active in debt markets may be more capable of procuring the most competitive financing terms.

Those not as active would benefit by retaining an intermediary to ensure the effective positioning and distribution of the offering, to know what is “market” in loan sizing, pricing and structure, and to have an advocate assist in negotiations.

How do borrowers decide between longer-term fixed and shorter-term floating rate loans?

Decisions borrowers make today on the level and term of financing can be critical to the performance of their investments.

Depending on projected cash flows as well as one’s view of interest rates and asset-hold period, borrowers may seek short-term, floating-rate financing, or longer-term, fixed-rate debt.

The former could cost less in the short term and provide flexibility for a near-term refinance or sale, while the latter provides certainty of debt service for a long period of time. 

Which lenders are more active in floating-rate loans and in fixed-rate loans?

Today’s floating rate lenders tend to be banks, some LifeCos, and single-borrower CMBS issuers.

For fixed-rate loans, banks can be competitive (through a swap) for up to seven years; CMBS is most competitive for ten-year loans (for conduit or single-borrower) and LifeCo’s from five to thirty years, though most active on ten-year product.

Debt funds and mortgage REITs can lend on a floating or fixed-rate basis, but tend to prefer shorter durations.

How does loan size impact lender choice?

Major money center banks tend to hold loans from $25 million to $125 million, though they can underwrite (fund prior to post-closing syndication) up to several hundred million.

Regional banks would fund smaller loans and probably top out at $50-million holds. Community banks typically top out at about $20 million.

Larger LifeCo’s may hold up to $300 million or so, but more likely prefer up to $200 million.

For loans exceeding, say, $250 million, CMBS can execute a single-borrower/asset execution, which can provide for more flexibility than conduit loans. Debt funds and mortgage REITS can go small, medium or large, depending on the fund/REIT. 

Where is pricing today for conservative and full-leverage loans?

Pricing today for a 50 percent LTV, 10-year fixed rate loan or less could be in the range of 115-120 over the 10-year swap rate in a single-borrower CMBS execution. LifeCos would likely be in the range of 140 over the ten-year Treasury.

For loans in the 60-65 percent LTV range, spreads rise to 150-170 over the applicable index. For floating-rate bank loans, such spreads would be 180-200 over LIBOR.

While CMBS loans may go up to about 70-75 percent LTV, LifeCo’s and banks top out at about 65 percent.

For higher leverage, debt funds and mortgage REITs may either provide “stretch” senior loans or mezzanine debt/preferred equity behind other senior debt. The latter subordinate capital can be priced anywhere from 5-15 percent depending on leverage attachment points (LTV tranche) and the investment risk profile. Ample capital exists for moderate and high-yield debt.   

Where is there less debt liquidity in the market?

One segment of the market where financing has been more challenging to procure at low rates with minimal structure (credit support) has been with speculative construction loans. This market was almost non-existent six-twelve months ago, but has since eased up a bit.

Banks will typically only lend up to between 40 and 50 percent of cost (65 percent for multi-family rentals) at rates in the mid 3s to high 4s over LIBOR. This allowed the debt funds to come in and charge LIBOR plus 600 to 800 for loans up to 70-75 percent of cost.

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