By Jim Costello on February 10th, 2016
Last week, I sat down with Byron Boston at the Mortgage Bankers Association CREF16 meeting in Orlando. Byron, who moderated the discussion of a presentation I delivered at the last MBA meeting, has helped me get involved with and understand this organization. After business hours we were sitting at the bar watching the crowd and Byron said:
Bryon was right: much of the pricing for the year was formed in the collection of all the side conversations, connections with old colleagues, and of course the endless meetings holed up in hospitality suites. The challenge for the year that I picked up in my conversations was the known/unknown of the market’s capacity to lend.
Everybody knows that with the high volume of loans originated in 2006 and 2007, in the next two years the market will need to refinance much more debt than in years past. The unknown is whether there will be enough debt capital to satisfy the demands of this refinancing, plus anything like the $533 billion in transaction activity that Real Capital Analytics tracked in the U.S. in 2015.
Regulatory burden in commercial real estate lending was on the minds of many participants. The concern was that changes in regulation facing both banks and CMBS originators may reduce the capital availability from these lenders at a time when demand is likely to be higher.
The banks are concerned about the structures of the rules around CCAR; participants I talked with felt that there may be a certain level of capriciousness in the rules which may limit what they do in the year. Still, it seems that these concerns are more an issue for the smaller banks.
The sense I gathered was that larger banks have staffed up on their compliance teams over the last few years and are better able to handle any new regulatory oversight. That said, given that local and regional banks are an important source of debt capital in secondary and tertiary markets, any pullback in activity by these lenders may hamper activity in these smaller markets.
The changes coming to the so-called HVCRE (high velocity commercial real estate) loans were expected to reduce the availability of debt capital for construction loans. While such a change may be problematic for individual developers, such changes now —just as construction was picking up steam in some property sectors— may well help income fundamentals.
The general view was that CMBS lending as we know it may see its last hurrah in 2016. The risk retention rules being implemented in December 2016 will require originators to hold 5% of the deal over the term of the loan. Such a rule is in effect requiring originators to invest in commercial real estate debt if they want to be active in this market.
Still, the rule changes will be implemented near the end of the year. Perhaps early in the year the CMBS market will be active under the old rules. Into the late summer and fall though, originators concerned about being left holding the bag when the rules change might pull back from what they had done before.
All was not gloom though on reduced debt availability. Another commonly held view was that life insurance companies are sitting pretty today. With a need for ongoing yield investments and potential problems at their bank and CMBS competitors, meeting participants expected these lenders to make hay in 2016.
A preliminary update of the Lender Composition chart which Real Capital Analytics typically publishes in March of every year does show that life companies increased their activity in 2015 relative to 2014. The expectation of participants I talked with at the MBA conference is that this trend will continue into 2016. The challenge will be to see if the mix of changes in the supply of debt will lead to increased lending rates in 2016 as a form of capital rationing. That too is another big unknown.