Capital Markets Continue to Thwart CRE Professionals

Data is typically an important part of smart business decisions — assuming the data is available. In conditions that are changing rapidly, as with CRE, data collections may not be recent enough, making anecdotal evidence important to consider.

A recent virtual meeting among NAI Global offices in the U.S. about capital market trends, moderated by Arthur Milston, senior managing director and co-head of the capital markets group of NAI Global, had some insights into what is happening now.

The top takeaway, and maybe the least startling, is that a lack of available funding is the biggest factor for low transaction volumes. With high interest rates, expensive interest rate caps, and more conservative underwriting with lower loan-to-value ratios, getting deals to pencil has been increasingly difficult. The meeting participants noted that it is very difficult to secure debt for projects of $20 million or more. Investment-grade property under $10 million is still very strong.

One participant in the Northeast said some regional banks are lending, but it’s pricey. Construction loans are 8% with them because, as a banker explained to the participant, internal costs of loans is 6% and the institutions need at least 200 basis points of margin for a loan to make sense to them.

That is a general take. Industrial assets are still in demand. A participant mentioned a recent sale that involved five buildings and a transfer of a $300 million loan. One of the buildings was already leased. The other four head to market on speculation.

Results also depend on location. An industrial-grade multifamily asset went in Northern Colorado at a 5.2% cap rate, which was 50 basis points than expected. Some investments are being seen as riskier than had been the case.

Offices on the other hand, have seen a lending window “all but shut.” In some cases, “good industrial buildings in the same submarket of older class office buildings have greater value on a per-square-foot basis, which is practically unheard of if you have been in this business for a while.”

In Columbus, Ohio, with a midsize population and moderate commute times between homes and offices, there’s been more of a push for getting back to the office. But banks are looking to national trends and, according to a participant, looking for “insane” LTV values.

Someone from New Mexico is bringing a 45,000-square-foot athlete club with 5,000 members to market. The seller wants a 10-year lease-back and is offering a personal guarantee with 2% annual rent rises. The property has assets like hockey rinks and move theaters, making it difficult to find a different tenant if necessary. When the participant asked for potential cap rates, others said 7% to 8%. Lenders would likely demand the majority of principal to be repaid within 10 to 15 years.

A big investor in southern California who holds more than 300 buildings already wanted to close on a $6 million property. But lenders wanted something they called “building ordinance insurance coverage,” which meant insurance not only for replacement costs in case of destruction, but money to cover demolition, surges in construction prices, and fees for securing permits. This is even as insurers like State Farm and Farmers Insurance pull out of the state.

This helps put into greater context the news that Texas-based Howard Hughes Corp. approached 48 lenders about a new project and not a single one offered a bid.

For those who have been wondering when a wave of distressed commercial real estate might happen in the U.S., NAI Global expects it to start in 2024 and last through 2026.