CRE Lending Trends in a Volatile Economic Environment
Commercial real estate investors and capital providers use a variety of strategies to deal with inflation, rising interest rates, and volatility. However, in times of record-high inflation rates and rising prices, it is now more critical than ever for investors to take opportunities in times of uncertainty. Many industries, including commercial real estate, have been permanently reshaped during these times, which has translated to ongoing disruption in the retail lending space. Global financial institutions and real estate brokers have responded to the rising inflation by becoming more proactive, adaptive, and innovative.
Economic Volatility Impact on CRE Deals
Inflation has reached a 40-year high, causing commodities to skyrocket. This record-breaking inflation rate has produced mixed opinions among CRE stakeholders. The inflation rates further increase the demand for commercial real estate investments, causing investors to have no choice but to innovate as they have minimum return requirements and maximum risk tolerances. In addition to this demand, several private clients looking to enter the market or buy their first deal are being forced to sit on the sidelines due to the rising financing costs.
However, this economic volatility offers some positives. Chris Woodhouse recently pointed out that Inflation and rising interest rates are enticing investors because investments made at today’s prices yield higher profits and returns in the future. In addition, cap rates are increasing, with the interest rates decreasing property values by thousands of dollars.
According to Patrick Flanigan, Volatility will force sellers to readjust their returns. Some low-priced capital comes from banks and credit unions, but several other lenders are priced out of the market.
Despite recent obstacles, the economic outlook for the commercial real estate industry is expected to expand in the coming years. The key to success will be adaptability; investors need to evolve to meet the changing needs of businesses and consumers. The industry will need to begin prioritizing infrastructure and adapt to a changing landscape to succeed in the future.
The director of CMBS lending at Morgan Stanley mentioned “The market is still very active, we are doing loans everyday with investors that get it, but there are investors that are going to wait out the volatility period… but by 2023 when the rollercoaster of interest rates hits a stop, and plateaus this is when investors and new opportunities seek more and more because they have gotten over their “fear of heights”.”
How to Combat Volatility
Commercial real estate has long been considered and broadly implemented as one of the best and most effective inflation hedges. Investors and capital providers use a variety of strategies to deal with inflation, rising interest rates, and overall volatility. A cash flow model generally drives investors’ decision-making; the most used techniques to combat inflation are:
- Using interest rate swaps
- Purchases of interest rate caps (some required by lenders)
- Low-cost bridge funding
- Seeking assets with a debt structure that incorporates, assumably
In addition to these standard techniques, Patrick stated that brokers and owners must look at shorter maturities or a floating rate to get desired proceeds. The market is also seeing syndicators use a bridge loan, expecting rates to fall in the short term. It is also advised to capture rent upside within the next 12-24 months.
Best Practices and Advice
Commercial real estate will always be a dominant investment. Brokers recognize this and work with investors and developers daily to assist them in navigating the path to a properly completed acquisition. Deals now require daily check-ups to ensure terms are still available. Brokers like Patrick Flanigan are also advising clients to close in 60 days. Even if there is a 90-day rate lock, lenders will retrade after 60 days.
Chris Woodhouse ensures investors that there will be constant changes but recommends staying within the bounds of the situation. He urges everyone to keep in mind that there are opportunities everywhere in today’s market. CRE developers will continue to construct and uncover less expensive and more efficient ways to create a more significant product. Informed investors will not avoid the market if they understand a lot of money is to be made.