LOS ANGELES—Commercial real estate investments have outperformed other investment classes since the “Great Recession” on a risk-adjusted basis. The markets have deduced this, and debt and equity capital is flooding commercial real estate markets. Not only is there abundant supply of capital, but now a shortage of supply of assets needing financing. The result of this increased competition is lenders competing on pricing, proceeds, and structure.  Some examples are:

  • Life insurance companies, who are notoriously conservative fixed-rate permanent lenders, have recently increased maximum leverage to 75% loan to value on selective assets. Additionally, they are providing more flexible prepayment options and the ability to get incremental funds during the term of the loan as the net operating income increases. 
  • CMBS lenders have moved underwriting standards for loan sizing to 8.0% debt yields from 9.0% debt yields. For certain assets, CMBS lenders can be as tight as a 7.5% debt yield without any mezzanine/B-note proceeds putting all into the 1st mortgage; which can increase proceeds by over 10%.
  • Non-recourse bridge debt pricing is close to historic lows at LIBOR + 1.50%, or an all-in rate of approximately 1.65%.
  • Equity pricing has tightened as well. Cumulative preferred returns have moved from 12% to 10% and 8% in some cases. This is while yield expectations have come in 2%-4%.

With lenders and investors unable to differentiate themselves through quantitative measures such as pricing and proceeds, they are instead using various loan structure options and incentives in order to set themselves apart from the competition. Examples of these competitive loan structure offerings include:

  • Recourse. Non-recourse debt is now plentiful for all types of debt including permanent, construction, and bridge. Additionally, lenders will now look to entities in lieu of “warm bodies” for recourse carveouts and completion guarantees.
  • Longer Interest-Only Periods. CMBS can go up to 10 years interest only, with five years interest only on a 10-year term being typical. Even life insurance companies are offering 2-3 years of interest only. Construction and bridge lenders are providing up to five years interest only; where historically their loans began amortizing after a two-year reposition or development period.
  • Capping Tenant Improvement, Leasing Commission, and Replacement Reserves. For CMBS, minimum reserves are being calculated, with most being capped.
  • Mezzanine Debt/Preferred Equity. Fixed or floating mezzanine debt and/or preferred equity over the first mortgage is now available up to 95% of the capital stack. The mezzanine debt and preferred equity is much more competitively priced ranging from 5% to 15% depending upon real estate and market risk, leverage, and sponsorship.
  • One-Stop Shopping for Bridge to Perm. Term lenders are willing to take construction, development, and lease-up risk in order to get the permanent mortgages.  They will lock rate on permanent and construction loans up to 24 months prior to stabilization.  We are also seeing lenders provide bridge to perm for agency debt and CMBS.
  • Serving Tertiary Markets. Competition is fierce among lenders in core markets, so capital sources are now servicing secondary and tertiary markets.  This is to find better assets or higher yields on like property in core markets.

With the abundance of capital, the market is inefficient.  Lenders and investors are being more subjective in pricing and structure. Borrowers should first identify their specific needs (i.e. rate, proceeds, etc.); then test a broad sampling of lenders and investors to ensure they are securing the best deal.

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