Understanding pricing of any kind in CRE — properties, building, insurance, financing — has become extremely difficult. Lowered transition volumes and quickly changing economic and financial factors have made the process incredibly difficult.
But when it comes to seeing how investors are pricing opportunities, Trepp suggests looking at an investment’s spread-to-Treasury bonds. There is a deep sense in that as Treasurys are so often part of calculating a risk-adjusted return. They are the typical measure of safety.
Vivek Denkanikotte at Trepp points to a pair of spread indices that are applicable to CRE and real estate capital markets. The first is the comparison of AAA-rated senior commercial mortgage-backed securities (CMBS) bond trading on secondary markets to Treasurys. The second is CRE loan spreads quoted by portfolio lenders.
Spreads increase when perceived risk increases, a self-fulfilling prophecy. If investors think risk is greater, they want more money for taking the risk, which means a broader spread. And, as follows, when perceived risk decreases, spreads decrease. Investors of course would like to keep the extra money when things are safer, but given the nature of markets, others will come in and take a deal away with better terms, something akin to a Dutch auction, when the price keeps dropping until someone takes the bid.
“Since CRE loans compete for capital with other risk assets such as corporate bonds, lenders will often use yield spreads for bonds traded on the secondary market to help set pricing for loan quotes, even if the loans will be held as part of a portfolio rather than securitized,” Denkanikotte wrote.
For example, as a few banks failed and investors become understandably concerned, the spread between AAA CMBS bonds and Treasurys expanded from the 100s of basis points to upwards of 170, a jump that Trepp pegs at 30 to 40 basis points. The spreads have calmed some but are still elevated.
Regarding CRE loan spreads from portfolio lenders, Trepp has seen the results in its work tracking lending spreads by portfolio lenders by property type.
“Of the four property types covered by Trepp-i, it is no surprise that office loans have seen the largest increase in spreads, increasing almost 25 basis points from the beginning of March through mid-April,” Denkanikotte wrote. “Interestingly enough, loan spreads for multifamily, previously seen as the most stable property type, have also widened quite notably increasing by 20 basis points over the same period.”
Retail and industrial spreads were up by about 14 basis points over the same period.