REAL CAPITAL ANALYTICS
May 14, 2010
Following two years of sharp contraction, multifamily and commercial real estate credit markets have shown fresh signs of life in recent months. Consistent with the first quarter’s year-over-year increase in sales volume, financing for new transactions – as well as refinancing activity unrelated to distress – has picked up from last year’s trough. Albeit at lower leverage than at the 2007 peak in investment, a diverse list of active lenders from the fourth quarter of 2009 and 2010 to-date reflects this measured uptick in investment activity as well as a changing mix of market participants.
As revealed in our analysis of current commercial mortgage lending, the nascent recovery in new financing for commercial property is uneven. In particular, continuing increases in the volume of legacy mortgage distress and weakness in property fundamentals have tempered some lender groups’ return to the marketplace. The uncertain policy environment, as well as differences in lenders’ legacy challenges, are together prompting new shifts in the sources of commercial mortgage credit in the United States.
Returning to the lending market after an extended hiatus, conduit originators are projected by market participants to drive between $20 and $40 billion in commercial mortgage securitization activity by year’s end. Thus far, only a small share of total lending has been designated explicitly for securitization. The volume of loans moving through lenders’ reopened conduit operations is expected to accelerate in the second and third quarters, once new issuance develops traction with investors and in spite of record-setting CMBS delinquency and default rates.
At this juncture, and because investors’ concerns about exposure to potentially opaque, illiquid assets weigh against properties in smaller metropolitan areas, an active conduit will benefit borrowers with larger assets in primary investment markets disproportionately. This bears out in Real Capital’s analysis of 74 recently originated and pooled multifamily and commercial loans, which found an average loan-to-value ratio of 0.695 and an average loan size of $20.9 million. In comparison, our analysis shows that average loan size for recently originated regional and community bank mortgages is $5.1 million, roughly one-fourth the balance of the CMBS counterpart.
Just as the outlook for CMBS activity is brightening, many regional and community banks are coming under greater pressure – both internal and external, from regulatory examiners and investors – to reduce balance sheet concentrations in commercial real estate. The default rate for commercial mortgages held by bank lenders reached a 16-year high in Q4’09, rising to 3.8% of outstanding balances. RCA’s analysis of FDIC data and regulatory filings by more than 8,100 banks shows that the volume of commercial mortgages in default climbed from $37.2 billion in the third quarter to $41.7 billion in the fourth quarter.
Regulated lenders have experienced a drop in market share in early 2010, slipping from 17% percent of new dollar volume of lending in 2009 to 12% in 2010. They have also turned markedly more conservative in the last three years, with average loan-to-value ratios falling consistently below 0.7 at regional and national banks. Since these institutions play a more significant role in the nation’s secondary and tertiary markets, binding constraints related to legacy balance sheet management weigh more heavily on pricing and liquidity in smaller markets.
Facing loss management issues of a different sort, the government-sponsored enterprises – Fannie Mae and Freddie Mac – continue to experience record-setting losses in their single-family housing portfolios. Fannie Mae reported last week that it was seeking $8.4 billion from the Treasury Department to cover net losses in the first quarter. Across the two GSEs, losses offset by the public purse now total $145 billion. While the GSEs continue to play a critical role in supporting the multifamily investment market, their role has diminished relative to last year and their peak year in 2008. In part, this shift reflects the readiness of a broad array of lender groups to extend credit in the multifamily sector given more optimistic projections for its property fundamentals. The GSEs’ multifamily portfolios remain relatively very healthy, with delinquency and default rates that are only a fraction of banks’ multifamily default rates, in spite of these loans generally being made at the highest loan-to-value ratios (0.75 in 2009) of any lender group.
Like the GSEs’ multifamily portfolios, life companies’ losses on their commercial mortgage portfolios have been similarly contained. The tightening of credit standards has worked to the benefit of life companies since this lender group was at a comparative disadvantage in competing for loans when standards were easing. Less encumbered by legacy issues and with market-wide credit standards now more consistent with their own underwriting (life companies show the second lowest average loan-to-value rate of all the lender groups in 2010), life companies have been able to grow their share of the market from 6.2 percent to just over 11 percent between 2009 and 2010 to-date. This increase reflects a rise in the number of loans and in average loan size as well, to $26.2 million in 2010. While further growth in market share is likely to be limited, this will likely follow from life companies’ own efforts at concentration balancing.
Notes: This analysis is based principally on a sample of 2,551 commercial mortgages newly originated in 2009 and 2010 for office, industrial, retail, apartment and hotel properties in the United States. The first mortgage loans were originated to finance the acquisition or re-finance existing properties valued $2.5 million and greater. Seller financing or assumed debt in conjunction with acquisitions is excluded. Lenders have been classified according to the type of the lead originator. Loan-to-value ratios are calculated based on the loan amount and purchase price or appraised value and exclude any capital improvements that may be planned.
Data subject to future revision; based on properties & portfolios $5 mil and greater.
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