Archives for 2023

Looking ahead to what commercial real estate might do in 2024, which is what PGIM Real Estate just did in a report, requires a baseline starting point.

It’s a complex one. “Real estate is adjusting to elevated interest rates, with expectations of buyers and owners still far apart,” the report said. “We estimate those expectations will not converge until property values fall another 10%. Nevertheless, property incomes remain resilient. U.S. rent growth will decelerate, but generally remain positive, as newly built properties deliver and demand moderates.” The 10% estimate was general. “As usual in a real estate downturn, office will be the most impacted sector. Necessity-based real estate (defensive retail, senior housing and manufactured housing) should emerge comparatively better off.”

The total expected peak-to-trough fall on average will be -24%, if PGIM is right. Break out by property type and you get senior housing at -9%, manufactured housing at -9%, retail of -13%, -17% for industrial, multifamily would have dropped -23%, and office far off at -43%.

Looking at 2024, PGIM points to expected positive revenue growth over all sectors for the next four years. However, that’s an average. Investors will be interested in where the distribution of expected success is highest. “Look for deceleration in industrial, storage and apartments, and improving income growth in the senior housing, retail and office sectors,” they wrote.

Core lending should find itself offering the “most attractive risk-adjusted return in years,” with conservative loan terms further protecting lenders. The difficulty in getting refinancing for buildings, with many lenders like banks lowering the amount of loans they’re willing to hold on their books, makes for higher demand, “even if transaction activity remains muted.”

With more than $1 trillion in CRE loans maturing next year and 2025, PGIM expects a $300 million plus refinancing gap. “New-vintage multifamily properties and older assets in appealing locations will be part of this mix, along with distressed office, retail and lodging collateral.”

A good area for investment is public REITs, the firm says, because their share prices have already taken into account future value losses in their holdings. “Core sector REIT prices largely already incorporate our expected full-cycle, leveraged value corrections, and some are priced for recession already,” they said. “With high-quality real estate portfolios and full liquidity on demand, public REITs offer an attractive entry point today.”

Residential rentals will retain basic strength as an investment because even with a recent spate of multifamily construction, there has still been significant underbuilding of housing over the last decade. A surge of household formation, high costs to buy have created the largest own-to-rent cost ratio in many years. That’s made rental housing more of a must than in recent memory.

Finally, student and senior housing sectors are both set to do well. On the student side, there’s been a post-pandemic rebound in demand that “leaves the sector with healthy occupancy, setting the stage for continued rent growth.” For senior housing, occupancies are near pre-pandemic levels and net absorption is almost double the average over the last ten years. “We expect occupancies to fully recover by 2025.”

Source: “There Are Some Good CRE Opportunities Looking Ahead“

In the realm of commercial real estate transactions, acceleration clauses play a pivotal role. They are integral components of loan agreements, which can potentially impact the borrower’s financial standing significantly. Understanding and navigating acceleration clauses can be complex, but with a comprehensive grasp of their implications, borrowers can make informed decisions and mitigate potential risks.

An acceleration clause is a contractual provision that allows a lender to demand the full repayment of an outstanding loan balance under certain conditions. Typically, these conditions include default on payments, bankruptcy, or a breach of other terms in the loan agreement. The purpose of an acceleration clause is to protect the lender’s interest by enabling them to recover their funds in the event of a borrower’s financial distress or non-compliance with the loan terms.

The presence of an acceleration clause in a commercial real estate loan agreement can be a double-edged sword. On one hand, it provides a safeguard for lenders against default risk. On the other hand, it can place a significant financial burden on borrowers who may be unable to repay the entire loan amount immediately upon the lender’s demand. Therefore, it is crucial for borrowers to fully understand the implications of an acceleration clause before entering into a loan agreement.

When navigating acceleration clauses, it is essential to pay attention to the specific triggering events outlined in the loan agreement. These triggers vary from contract to contract and may include missed payments, insolvency, or even the sale of the property without the lender’s consent. By being aware of these triggers, borrowers can take proactive measures to avoid activating the acceleration clause.

Furthermore, it is also crucial to understand the concept of ‘cure periods’. A cure period is a specified timeframe within which a borrower can rectify a default or breach of contract to prevent the activation of the acceleration clause. Cure periods provide borrowers with an opportunity to resolve issues without the immediate threat of full loan repayment. However, the length and conditions of cure periods can differ greatly between contracts, making it vital for borrowers to familiarize themselves with these details.

In some cases, acceleration clauses can be negotiated. Borrowers may be able to negotiate the terms of the clause, such as the specific triggers or the length of the cure period, to make them more favorable. However, the success of such negotiations largely depends on the lender’s flexibility and the borrower’s bargaining power.

Legal counsel can be invaluable in understanding and navigating acceleration clauses. Experienced real estate attorneys can help interpret complex contractual language, identify potential risks, and negotiate more favorable terms. They can also provide advice on how to manage an acceleration clause should it be triggered, potentially saving borrowers from severe financial distress.

In conclusion, acceleration clauses are a critical aspect of commercial real estate transactions that borrowers must navigate carefully. By understanding the implications of these clauses, identifying the triggers, familiarizing themselves with cure periods, and seeking legal counsel, borrowers can protect their interests and ensure a smoother transaction process. Despite their complexity, acceleration clauses can be managed effectively with the right knowledge and preparation.

Source: “Navigating Acceleration Clauses in Commercial Real Estate Transactions“

According to the latest research from CBRE, the commercial real estate lending market is beginning to stabilize, with borrowing costs appearing to have peaked, even as transaction activity remains subdued.

The CBRE Lending Momentum Index, which tracks the pace of CBRE-originated commercial loan closings in the U.S., declined by 3.0% from Q2 2023 and 47.9% when compared with the strong loan volume in last year’s third quarter. The index closed Q3 2023 at a value of 187.

“While capital markets headwinds continue, we are seeing signs that lending conditions may be stabilizing for certain asset classes,” said James Millon, U.S. President of Debt & Structured Finance for CBRE. “Credit is gradually loosening, cap rates are resetting higher and the Fed’s rate hiking campaign may be near the end, which collectively could pave the way for an uptick in deal volume in the second half of next year.”

Banks accounted for the largest share of CBRE’s non-agency loan closings for the sixth consecutive quarter, originating 38.4% of the total in Q3 2023, down from 43.3% in the previous quarter. Construction loans comprised about half of Q3 2023 volume, while one-third were for refinancings and the rest supported property acquisitions.

Life insurance companies accounted for 33.5% of origination volume in Q3 2023, up from 26.8% in the previous quarter, predominantly in fixed-rate acquisition and refinancing loans for multifamily, industrial and retail assets.

High short-term borrowing costs continued to constrain alternative lenders such as debt funds and mortgage REITs, which accounted for 27.5% of Q3 2023 loan volume. Collateralized loan obligations (CLO) slowed to just $6 billion for the first nine months of 2023, down substantially from $27.3 billion over the same period in 2022.

CMBS conduits accounted for less than 1% of non-agency loan volume in Q3 2023, compared with 3.7% in Q2 2023. Industrywide CMBS origination reached $26.4.year-to-date through Q3 2023, down substantially from $64.4 billion for the same period last year.

Underwriting criteria changed slightly in Q3 2023. The average underwritten cap rate rose by 16 basis points (bps) to 5.68%, while the average loan-to-value (LTV) ratio increased to 61.4% from 58.3% in Q2 2023. Higher interest rates translated to loan constants averaging 6.72% in Q3 2023, up 79 bps year-over-year.

Government agency lending on multifamily assets totaled $29.8 billion in Q3 2023, up from $27.8 billion in Q2 2023. CBRE’s Agency Pricing Index, reflecting average fixed agency mortgage rates on 7-10-year permanent loans, rose 23 bps in Q3 2023 and 103 bps year-over-year to 5.64%.

Source: “Commercial Real Estate Lending in U.S. Shows Signs of Stabilizing in Late 2023“

Residential rental concessions are hitting a two-year high with 30% of listing offering at least one concessions, according to Zillow based on its own rental listings. The previous recent high was in February 2021, where 37% of listings offered concessions.

Because the data set is all through Zillow, it would be considered self-selected and so unlikely to be statistically representative of the entire country. However, it also is a large number of rental listings and not something to be ignored offhand.

There has been an ongoing trend this year of more landlords and property managers relying on concessions as a marketing technique. They work with the assumption that resulting downward pressure on realized rents is worth the tradeoff for lowering vacancy rates and maintaining revenue.

Zillow’s own data showed that 23% of listing in January 2023 offered concessions like some number of months in free rent or parking. That continued to move upward to 28% in March before sliding to 25% in June. But then the percentages keep climbing to the current number.

Of the largest 50 rental markets in the U.S., 43 had more rental concessions this year than in 2022. “Concessions are often rising most in markets where multi-family construction is booming,” the report said.

In March 2023, a report from Berkadia showed how concerns about slowing apartment demand and falling apartment rental rate growth was manifesting in concession and lease renewal dynamics.

Redfin in September 2023 had an analysis on how multifamily rents were still incredibly high in an historical setting and yet creating the conditions for concession costs.

“A year ago, you really didn’t see concessions in the market. Fast forward to today, and they are far more common, with landlords offering from one to three months free in an effort to attract new tenants without lowering their asking rents,” said Jon Ziglar, CEO of Redfin-owned RentPath, in prepared comments. “Higher-end properties are beginning to see pressure in certain markets as a significant portion of new units coming online are in the higher end and luxury segment. We are still seeing a lot of competition for more affordable units due to less new supply, as well as increased pressure on consumer wallets limiting the ability to stretch for that higher level experience.”

“Zillow’s rental market report shows 3.2% year-over-year rent price growth in October, much closer to normal 3-5% annual growth than the peak of 16.9% in February 2022,” the company wrote. “Though October was the first month since that peak where annual rent growth accelerated, it remains to be seen whether this is the beginning of a recovery in annual rent growth back toward longer-term averages, or more of a stabilization. More rentals offering concessions may be a signal that rent growth is set to level off.”

Source: “Apartment Concessions Undercutting Rising Rents“