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A Review of Capital Markets Performance in Q2

As the U.S. economy enters Q3 in the quasi-post-COVID-19 era, equity capital is the strongest it has been in close to a decade. Due to the overvaluation of the stock market, investors are seeking safer return potential and diverting their cash into the commercial real estate market. The appetite for lower returns has been the strongest in nearly a decade, with private funds bidding aggressively on industrial, multifamily, medical office, self-storage, and big-box credit-tenant retail assets.

Middle-market investors are consistently being priced out of core-plus deals as institutional private equity has diverted their attention to the core assets in the top ten MSA’s.
Debt funds and family office capital have filled the liquidity gap for this market event as balance-sheet lenders, CMBS, and LifeCo companies continue to hold their ground within their debt product constraints.

It will remain to be seen if rising interest rates will slow down this bull market and unveil this private capital surge as merely a Q1 – Q2 trend.

The Sunbelt and southern United States have experienced the greatest influx of debt capital in the previous five years. With COVID-19 restrictions buckling Americans into their homes with no ability to dine in a restaurant, go to the gym, let alone work in the office; Americans who were on the edge of relocating to a sunnier part of the country decided to pack their bags, creating a disorder in geographic, economic growth compared to the rest of the country.

With the cost for lenders holding their capital on the books becoming increasingly expensive, the lending community priced the most aggressively on multifamily, retail, mixed-use assets, and hospitality in the South, compared to the rest of the country in over a decade.

Another unique change in the CRE investment market has been the conversion of hotels to multifamily properties. Conversions into a separate asset class at this level have never been witnessed in commercial real estate.

Loan sale activity has skyrocketed within the secondary markets as lenders who have failed to recover from sub-performing, and non-performing loans must offset and execute a hedge against these losses. Treasury purchases will continue to increase substantially compared to pre-COVID-19 times, causing rates to increase, aside from the Feds announcement of step-by-step rate hikes.
The CMBS market is projected to remain stable; however, spreads will continue to widen with global unrest, supply chain issues, and the recalibration of the debt capital markets due to the post-COVID-19 economy.

Expect national balance sheet lenders to continue to trend downward on LTC leverage, especially on office, retail, special-use, and hotel properties beyond the Southeast or Sunbelt.

It will remain to be seen how the commercial real estate capital markets evolve in late Q2 to early Q3; however projections from various research institutions state that this current trend of institutional debt capital will keep their focus on core and core-plus assets while private money fills the gap on what once was considered a safe investment for lending institutions.