The Money Race
Borrowers benefit as lenders chase commercial property deals.
Today's real estate finance
market remains very active, as owners continue to capitalize on
historically low interest rates by refinancing properties and
converting their debt from floating-rate to fixed-rate loans.
Acquisitions also are generating significant financing activity.
learned some lessons from Wall Street, commercial real estate investors
are better informed than in previous years. Lenders also gained
valuable insight: They must exercise more-stringent lending criteria to
mitigate risk. This point is particularly important in light of weak
market fundamentals. At the same time, lenders have become more
aggressive in their rates and spreads to reach production goals in the
face of heightened competition among the players.
many markets, commercial real estate prices still are climbing to new
highs, more due to the availability of capital than because of solid
economic fundamentals. Despite high prices, the cost of money remains
near an all-time low, creating extremely favorable market conditions
for borrowers, owners, and investors that now find themselves in a
unique situation as more money chases fewer deals.
acquisition and financing activity remains fast paced, the lending
arena and the players have changed considerably. Boundaries among
lenders have shifted, creating a vast pool of financing suppliers that
vary by size and capital sources. Although traditional savings and
commercial banks historically held the majority of the mortgage
business, Wall Street conduits, insurance companies, and other
nontraditional sources, such as mezzanine and bridge financing
providers, are grabbing a greater share of the market, creating
competition beneficial to borrowers.
Nontraditional Lenders Speed Ahead
The current commercial real estate market is crowded with unstabilized
properties, most often financed by interim or bridge loans. Sometimes
requiring personal guarantees and typically featuring one-year to
three-year terms, bridge loans offer rates 2 percent to 3 percent over
London interbank offered rates and typically allow borrowers to finance
80 percent of their acquisition and construction/development costs on a
nonrecourse basis at very attractive spreads.
banks, regional savings banks, and credit companies are the most common
bridge loan sources. Interim or construction loans ideally are suited
for local lenders because of the localized knowledge that is often
necessary to make such loans.
lenders such as life insurance companies and Wall Street conduits also
are competing to finance unstabilized properties as an entree to making
future permanent loans. By structuring incentives for borrowers to take
out permanent loans with them (such as steep penalties for not doing
so), these new entrants are securing a competitive edge over regional
banks and more-traditional commercial lenders.
example, in an effort to satisfy borrowers' needs and become long-term
full-service providers, life insurance companies now offer both
securitized lending and balance-sheet lending for properties in
The conduit business also
has joined this growing pool of funding sources for unstabilized
properties. No longer viewed as commodities, conduits often feature
high maximum loan amounts, low rates, competitive spreads, and low
reserve requirements to differentiate themselves from the
more-established lenders in this arena. Other nontraditional financing
sources such as mezzanine lenders also have emerged, actively meeting
needs often overlooked by traditional lenders with tighter underwriting
criteria. As a result, mezzanine lenders are in high supply and are a
source of higher leverage for unstabilized properties. While they still
adhere to sound underwriting principles, mezzanine lenders often are
willing to reduce their profitability in exchange for volume because
they need to put their money to work.
addition to properties in transition, banks typically hold the dominant
permanent financing for stabilized properties with strong cash flows.
But in the current market, nontraditional lenders are encroaching on
this terrain as well. In particular, mezzanine lenders, which often are
asked to finance the capital structure above 80 percent loan to value -
the traditional maximum amount for a first mortgage - are even more
competitive on stabilized properties than unstabilized properties.
Traditional Lenders Respond
To compete with nontraditional lenders, many banks have created
flexible lending programs to satisfy unstabilized property owners'
financing needs. For example, with balance-sheet lenders, borrowers may
be able to lock in interest rates at the loan application stage,
complete with flexible prepayment options and the ability to borrow
additional loan proceeds as net operating income increases. The
flexibility that balance-sheet lenders offer is more attractive to
long-term owners than the marginally tighter spreads they might achieve
with less-flexible conduit or securitized lenders.
this year U.S. Treasury rates dropped, allowing borrowers to lock in
seven-year to 10-year fixed-rate loans below 5 percent. Now lenders
must accept tighter spreads on their loans and rely on volume to make
up the difference.
sources also have learned that they need to compete more assertively
and, in many cases, more creatively. For example, they are doing deals
with higher leverage - above 80 percent LTV. Waived reserves,
interest-only loans, and more-negotiable prepayment penalties are just
a few methods these lenders are using to attract borrowers' attention.
the current lending environment, the lines among various lender types
have blurred, and new capital sources are entering this profitable
industry. These new players have fostered a sense of competition,
leaving borrowers in an enviable position when shopping for loans.