CRE Debt Markets Hit Stormy Waters Amid Rising Interest Rates
November 1, 2022 | Andrew Coen
If the commercial real estate lending climate from 2012 to mid-2022 was the Titanic out of Southampton, England — sleek, agile, strong and seemingly invulnerable — the last six months have been the first hour after the ship hit the iceberg. Panic has set in, and the band’s striking up “Nearer My God to Thee.”
One year after record lending volume during what seemed like a joyous recovery out of COVID, the debt markets began to tighten in the second half of 2022. The culprit, of course: uncertainty over how high the Federal Reserve will raise interest rates to fight inflationary pressures and an impending recession.
The debt markets began to dramatically change when the Fed increased its benchmark federal funds rate 75 basis points on June 15, marking the central bank’s first three-quarters of a percentage point hike since 1994. It followed up with two additional jumbo rate hikes in August and September, bringing rates to a range of 3 percent to 3.25 percent compared to the near-zero short-term borrowing conditions in early 2022, with no indications of letting up on the hawkish strategy anytime soon.
With market conditions now very different than even six months ago, most traditional lenders are taking a more cautious approach on what deals to pursue, according to Matt Stearns, head of originations at Black Bear Capital Partners. Stearns said Black Bear is most focused on higher quality sponsors and properties and is not tackling as many bridge lending deals of late.
While the markets are choppy to say the very least, Stearns said he does not see any similarities to the 2008 global financial crisis, when lending discipline was lax and loans to lower credit sponsors were de rigueur. One notable difference between now and 2008 is that loans then were underwritten with a loan-to-value base rather than debt service coverage ratio and debt yield base. He added that despite banks pulling back of late, there is still plenty of liquidity on the sidelines to deploy because of government stimulus money rolled out during the COVID-19 pandemic.
“At the end of the day, I think the vast majority of the market right now is definitely looking more apprehensive right now, just trying to take a little bit of a pause trying to figure out what’s going on,” Stearns said. “People are looking for reasons to not do deals.”
