Getting Weary of the Sibyls

These days, people are falling all over each other to repeat, retweet, recast and report dire predictions about the state of the commercial real estate business. They are the hysterical oracles of modern day, much like the Sibyls of Ancient Greece. Most often, they trot out the widely broadcast news that $1.4 trillion in commercial real estate mortgages are due to mature between now and 2014. I have no reason to doubt the figure, but I say, “So what?”. I am purely speculating, but I suspect that there was an equal amount of debt during the four years between 2006 and 2010. The problem in commercial real estate is not the size of the debt, it is the value of the underlying collateral. We appear to be under water. In fact, some borrowers are drowning.

Real estate loans are placed based on the appraised value of the property being mortgaged. In years past, a investor could borrow 80%, even up to 90%, of the appraised value. Recently, the loan to value (LTV) ratios available to borrowers have dropped to about 60-65%. Additionally, property values have dropped by 20-30% in many cases. Let’s do the math. In 2005, a borrower took out an $800,000 mortgage with a five year term on a $1,000,000 property (80% LTV). When the loan matures in 2010, the property is now worth $800,000 and the bank is willing to loan $480,000 (60% LTV). The borrower owes more than the bank is willing to lend. This is the dilemma that real estate investors, developers and business people are faced with in today’s climate.

However, some good news recently was delivered to my “in box.” Jim Collins is a mortgage broker with First Southern Mortgage in Knoxville. He had just returned from a Commercial Real Estate (CRE) Finance conference. Relating to the previous paragraph, Jim said, “There is plenty of long term, fixed rate money available (for the right deals). Our experience is that many loans originated in the easy credit times of 2005-2008 are overleveraged and we cannot take out the existing debt.”

The remainder of his comments clearly indicates a sea change in attitude toward commercial real estate lending.

“All in all, the mood was optimistic. With very few exceptions, Life (Insurance) Companies have CRE allocations for 2010 and are looking for business. The panic to hoard cash is in the past and everyone is looking to get back to the business at hand...investing money. While most everyone would like to do conservative loans in the 60% to 65% (LTV) range, a few recognize that there just aren’t that many low LTV deals in the market and pressure will drive leverage points up. A couple of Life Companies openly admitted, “If we are going to be doing 75% LTV deals by the end of 2010, then we might as well offer it now and try to pick off the best product in the market.”

“Conduits are gingerly reentering the market. Securitization is testing the waters again with loans up to 70-75% LTV.” Conduits, more formally known as commercial backed mortgage securities, are one of the main sources of funding for commercial real estate, along with life insurance companies and pension funds.
I shouldn’t have to tell you that this is good news. It is not a silver bullet, but it should quiet some of the Sibyls.