Lenders are bailing out of commercial real estate as a wave of debt builds | 01.30.24
Daniel Geiger, Jan 30, 2024, 7:13 AM PST
Article: https://www.businessinsider.com/banks-commercial-real-estate-loan-sales-debt-interest-rates-2024-1
Some $2.1 trillion of commercial estate debt is estimated to come due by the end of 2025.
Banks and other lenders could face big losses on those debts.
Recent loan sales show that banks are trying to limit their exposure.
Amerant Bank, a large community bank based in Coral Gables, Florida, recently announced that it had reached a deal to sell a $401 million portfolio of loans tied to a collection of apartment buildings in Houston for $370 million – a roughly 7% discount on the debt's remaining balance.
Amerant's chief executive, Jerry Plush, described the planned sale on a January 25 earnings call as part of an effort to refocus its business on clients with whom the bank has an ongoing relationship.
Banking and loan experts, however, see deeper motivations behind the decision by the bank and a growing number of other financial institutions that are beginning to unload commercial real estate loans.
"I don't ever like banks having to take a loss," said Stephen Scouten, a senior research analyst at Piper Sandler who covers Amerant. "Longer term, it's probably of some benefit."
Roughly $2.1 trillion of debt connected to commercial real estate assets, including office properties, apartment buildings, hotels, and retail spaces, will come due between now and the end of 2025 in the US, according to the real estate services firm JLL. With higher interest rates sapping commercial property values, JLL estimates that property owners will have to pour about $265 billion into paying down those loan balances in order to refinance.
The wave of maturities and the enormous equity shortfalls have raised concerns that a growing number of commercial real estate debts will fall into distress, forcing banks and other lenders to suffer losses.
The recent loan sales suggest that lenders are beginning to take a defensive posture, diminishing their exposure to the commercial property sector and raising cash.
"Staring at a problem is not going to make it go away," said Kevin Aussef, the president of US investment sales at CBRE, who noted that the firm had just been hired by the Canadian bank CIBC to sell a $316 million bundle of US office loans. "At some point in time, you are better off responding to it than waiting."
Aussef said that, for the time being, banks were seeking to sell off healthier loans at prices close to the face value of the debt and avoid heavily discounted sales that might force them to mark down loans more broadly across their portfolios.
"We're not seeing an avalanche of these lenders coming to the market," Aussef said.
The pace, however, is picking up.
David Tobin, a cofounder of Mission Capital, a loan sale advisory that is a subsidiary of the property brokerage firm Marcus & Millichap, said that an increase in loan dispositions began in the second half of 2023, when major institutions like PacWest, HSBC, and Synovus sold notable portfolios.
His group tracked about $15 billion of commercial property debt sales during the year, roughly three times the volume from 2022. Hard data on such loan dispositions is scant and transactions are not always public, but Tobin said he expects a similar amount to trade in 2024.
"It should be a robust market," Tobin said. Buyers can include real estate investors willing to take control of the property assets tied to the loans or who see an opportunity to assume debts that pay attractive returns.
More discounts to come?
Not every potential investor, however, is ready to buy just yet. Some see bigger discounts in the near future as distress picks up.
David Frosh, CEO at the specialty lending firm Fidelity Bancorp Funding Inc., for instance, said that banking executives in recent months have begun to inquire with him "every other week" to gauge his interest in purchasing commercial property loans they hold.
None have grabbed his interest however, he said, because they're not being offered at sizable enough markdowns.
"At the end of the day, the defaults are coming," Frosh said. "How big and when, I don't know."
Commercial real estate loans differ from residential mortgages taken by homeowners in that most are interest-only or pay down their principal balance minimally and span a decade or less. The system can subject property owners to the debt market during inopportune moments, such as the aftermath of the financial crisis when credit dried up, and today, where rates have risen to their highest level in decades.
Segments of the property market are in worse shape than others. Some office properties, for instance, have suffered a fundamental shift in value as a result of the widespread adoption of remote work and diminished leasing demand.
Only 51% of securitized office loans were refinanced between October 2022 and December 2023, according to Fitch – well below the 73% refinance rate for the wider commercial real estate market. The ratings agency projects the situation will deteriorate in 2024, with less than 25% of maturing securitized office loans refinancing during the year.
The agency predicts that office defaults will rise to 8.1% in 2024 and 9.9% in 2025 – higher than the 8.5% default peak during the financial crisis.
Even major investors have abandoned office deals, including Brookfield, which walked away from a portfolio of office towers in downtown Los Angeles, and Blackstone, which defaulted on 1740 Broadway, an office building near Columbus Circle in Manhattan. Bloomberg recently reported that the special servicer for the roughly $300 million securitized loan tied to 1740 Broadway was shopping the loan to potential buyers for half the value of the debt. The special servicer, Midland, declined to comment for this article.
"We wrote this property off two years ago, and in the event a buyer is identified, we will work collaboratively to transfer the ownership," a spokesman for Blackstone told Business Insider in an email.
Beyond the office sector, higher interest rates have fundamentally reset values across property types as investors seek returns that remain above the yields they can reap from risk-free investments like Treasurys. An investor considering a $100 million property, for instance, that produces $5 million – a 5% return – might today demand a higher yield of 8%. That shift would revise the property's value to around $63 million if the rental income remains steady, wiping out some, or all, of its existing equity.
Considering that lenders, in recent years, frequently extended debts up to about 60% of a property's value, the decreases in property prices have also made existing mortgages outsized in relation to the new values. Frosh believes that such loans require double-digit discounts to become compelling to buyers.
Some lenders and borrowers have arranged deals to extend debts in the hope that interest rates will drop this year, values and revenue will rebound, and a property's financial situation can be salvaged.
The nearly $700 million in mostly securitized debt at Aon Center, an 83-story tower in Chicago, entered special servicing at the beginning of 2023, a situation where a property is flagged by its lender as nearing default.
"We were in a position that nobody wanted to be in, which was high interest rates on the heels of a one- to two-year period where office leasing was slowed," said David Blumberg, a managing director at 601W Companies, the investment firm that owns the tower.
The landlord, however, recently struck an agreement to add three years to the loan at a reduced interest rate.
"Everybdy's consensus was that if we did a three-year extension, we'd get to the other side of the mess with certainty," Blumberg said, referring to the property's lenders and executives at 601W.
The 1740 Broadway office tower
The officer tower at 1740 Broadway in Manhattan, owned by Blackstone. Daniel Geiger
Such deals don't come cheaply, loan experts say, requiring owners to invest millions of dollars of cash to pay down portions of the debt, create reserves for building improvements and other costs related to leasing space, and forgo fees and revenue until a property's financial situation is stabilized.
Blumberg said that 601W had to invest $40 million to receive the extension on Aon Center's loan package.
Not every owner will decide to invest that kind of cash into the uncertain proposition that property values will bounce back in the next few years.
"It's really a question of what the sponsor thinks his property's worth today and in the future," said Rob Verrone, the founder of Iron Hound Management, a company that arranges and restructures commercial real estate debts. If "the lender says to you, we will give you an extension, but you got to put $10 million in, you may say: take the keys."
More banks are exploring loan sales
Banks and other lenders generally aren't eager to seize the real estate assets that collateralize their debt. Foreclosures can take months or longer and owning property is costly, requiring lenders to cover maintenance, insurance, and other operating charges.
"You've got taxes that are mounting up, insurance costs that are as high as they've ever been on commercial properties," said Bliss Morris, the founder and CEO of First Financial Network, a loan sale broker and advisor who has offices in Oklahoma City and New York. "These are all things that the banks have to think about."
Morris said she has seen a growing flurry of banks who are exploring loan sales to avoid the risk of having to take back properties.
"I can tell you, most of the bankers that we talk to today would just as soon exit the loan on as high a value note as they can versus getting into a long-term, drawn out foreclosure."
Rethinking CRE Risk & Return in 2024 | 01.17.24
Commercial Property Executive - By David Frosh, Fidelity Bancorp Funding CEO, January 17, 2024
https://www.commercialsearch.com/news/rethinking-cre-risk-return-in-2024/
It's not economic cycles that determine your level of opportunity, writes David Frosh of Fidelity Bancorp Funding.
In the course of 2023, economists and stock market analysts found themselves notably off the mark in their predictions, surpassing even their usual dismal results. Contrary to expectations, economic growth has exceeded most projections. Amazingly a significant uptick in interest rates was met by continued growth in national housing prices. No one predicted this.
To grasp the significance of the current economic landscape, reflect on the fact that a person needs to be approximately 36 years old to have navigated through a prolonged recession as an adult. From 1981 to 2021, interest rates plummeted by a staggering 2,000 basis points, and markets for both debt and equity soared all over the world (over this time, the S&P 500 increased approximately 10x). Despite numerous forecasts of an impending downturn in the face of higher interest rates, the economy has remained robust. The question now looms: Where are interest rates headed? The answer seems elusive, leaving even seasoned analysts without a clear trajectory. My bet is that analysts will continue to be wrong. More importantly it should not matter to you the investor.
What the experts say
Industry stalwarts such as Howard Marks, Warren Buffet, the late Charlie Munger, and Ray Dalio have consistently cautioned against succumbing to the noise of market speculation. While their advice holds merit, the collective response has been to ignore them. From the cryptocurrency sphere to the stock market, individuals have embraced significant risks without penalty. Marks astutely points out that over the past decade, those who meticulously researched and pondered risk did not fare as well as those who did less homework and spent more time on the golf course. The absence of penalties for high-risk ventures created an environment that enabled investors to amass unprecedented wealth. The continuous decline in interest rates masked many errors while amplifying gains from average investments.
Despite interest rates still lingering below the 50-year norm, predicting their future movement remains an enigma. Buffet asserts that the golden age for investing may be a thing of the past, ushering in an era where investors must once again hone their skills. Investors need to focus on the opportunities the market is presenting rather than what might happen.
Marks suggests a closer examination of bonds and private credit. With over a $1.5 trillion commercial real estate loans coming due over the next three years, which will need to be refinanced or paid off through property sales, a remarkable opportunity exists. Banks, facing challenges not entirely of their making, are being replaced by alternative lenders because regulatory restraints make it difficult for them to lend. None want to be the next Silicon Valley Bank.
Why interest rates matter little
For the first time in a generation, bonds may offer returns comparable to the stock market but with lower volatility and arguably lower risk. Private credit funds are now earning returns between 7.5 percent and 10 percent on asset-backed loans.
Over the past 15 years, it seemed nearly impossible not to profit from real estate. Drops in interest rates consistently enhanced property values. As the wise Munger noted, individuals were willing to pay as much as they could borrow.
However, the current landscape presents a formidable challenge for real estate investors. Properties currently leveraged between 65 percent and 90 percent are now facing a 100 percent increase in debt costs. With stagnant or declining rents, lenders are reluctant to extend high-leverage loans. At current interest rates, investors find themselves in a position where they must inject additional equity or risk losing their properties.
This serves as a crucial reminder: Economic cycles are not the key issue for real estate investors. It is leverage. Savvy investors with conservative leverage ratios, on the other hand, view downturns as opportunities to thrive and grow their portfolio.
Fidelity Bancorp Launches Construction Lending Platform | 08.21.2023
Samantha Rowan | Real Estate Capital USA
Fidelity Bancorp Funding, a Santa Ana, California-based alternative lender, has launched a construction lending platform, an initiative that John Omori from Bank of Hope will spearhead.
The hire comes a month after the firm brought on Charlie Woo from San Franciso-based Wells Fargo as president of its bridge lending platform with a mandate to spearhead an initiative to grow loan originations and borrower relationships.
A key part of this will be construction lending, which has faced the same difficulty as other parts of the financing markets. The slow down in lending has meant there are sponsors seeking financing to complete or start work on projects who are finding themselves without viable lending options, Omori explained.
“Some of the loans we will be doing will be bridge loan situations or situations in which a client needs more funds for project overruns,” Omari said. “We could also work with borrowers who are looking to reposition a property, either something they owned or an opportunistic purchase where there is some upside potential. Also, we are interested in a limited basis in ground-up construction deals.”
The firm will focus on smaller, local builders in the multifamily sector. “The large, institutional builders, both on the residential and multifamily side, will always get their capital. We are focused on the borrowers who are building projects that are 50-75 units. These loans are getting done, just at a much slower pace,” he added.
“On the residential side, the large institutional builders will always get their capital. What we are focused on over here are the smaller, local builders – the borrowers who are building smaller projects that are less than 50-75 units on a multifamily project. We are still hearing there are loans getting done, but at a much slower pace,” he said.
Omori also cited the demographics of the opportunity in the multifamily sector, noting there continues to be a housing shortage.
“MLS resale listings are at 20-year lows. Rental occupancy is still strong in many markets, especially California. First time buyers need housing. Current homeowners are not moving because they do not want to part with their 2-3 percent interest rate loans. Local small to mid-size scale developers producing rental inventory or speculative housing have had their typical capital financing resources withdrawn from the market. We believe the construction business will remain strong despite an uncertain economy, and are expanding our focus to provide capital to developers to execute their plans,” he added.
Omori said Fidelity Bancorp believes that as banks continue to grapple with balance sheet issues, there will be a significant opportunity for alternative lenders.
“Traditional lending sources, like the banks, are frozen right now. They have their own issues, unlike the last downturn they are dealing more with a balance sheet issue where the flight of deposits from their customers makes it difficult to have the capacity to provide answers to people need construction or bridge loans,” Omori said. “We think there is going to be a large opening for alternative lending or private lending out there, especially for the borrowers with good projects who are experienced and have good track records.”
For better or for worse, Fidelity’s outlook is that banks will not have an appetite for lending for the near- to medium-term. “It is still early innings for alternative lenders,” Omori said.
About Fidelity Bancorp Funding
Fidelity Bancorp Funding is a leading financial institution specializing in Commercial Real Estate, Multifamily and Single Family Residential Bridge loans and permanent financing. Over 30 years Fidelity Bancorp Funding has earned the trust of thousands of customers and completed billions of dollars in financing. For more information, please visit www.fbfloans.com.
Media Relations
(714) 908-5100
info@fbfloans.com
Fidelity Bancorp Funding Announces John Omori as Senior Vice President of Construction Financing | 07.13.2023
SANTA ANA, CALIF., July 13, 2023 — Fidelity Bancorp Funding, Inc., a leading financial institution specializing in commercial real estate, multifamily, single-family residential bridge loans, and permanent financing, is pleased to announce that John Omori has joined the company as Senior Vice President of Construction Financing. Omori will be tasked with launching the company’s construction financing division.
“With traditional banks being capital constrained especially for construction lending, it’s important that we provide a platform to our clients to alleviate those pressures,” stated David Frosh, CEO of Fidelity Bancorp Funding. “We are confident that John will be a great asset to our clients and team as we continue to expand our business.”
John Omori joins Fidelity Bancorp Funding following tenures at Bank of Hope, First Foundation Bank and Umpqua Bank where he specialized in multifamily and commercial real estate loan originations and underwriting of complex ground up projects.
Frosh continued by saying “John understands the architectural, development and construction process as well as the lending business. Because he can put himself in the shoes of both builders and lenders, he knows how to successfully put complex deals together.”
“Despite all the concerns with the economy there continues to be a housing shortage,” stated John. “MLS resale listings are at 20-year lows. Rental occupancy is still strong in many markets, especially California. First time buyers need housing. Current homeowners are not moving because they do not want to part with their 2-3% interest rate loans. Local small to mid-size scale developers producing rental inventory or speculative housing have had their typical capital financing resources withdrawn from the market. We believe the construction business will remain strong despite an uncertain economy, and are expanding our focus to provide capital to developers to execute their plans.”
About Fidelity Bancorp Funding
Fidelity Bancorp Funding is a leading financial institution specializing in Commercial Real Estate, Multifamily and Single Family Residential Bridge loans and permanent financing. Over 30 years Fidelity Bancorp Funding has earned the trust of thousands of customers and completed billions of dollars in financing. For more information, please visit www.fbfloans.com.
Media Relations
(714) 908-5100
info@fbfloans.com
Fidelity Bancorp Funding appoints Charlie Woo as President of its Private Lending Group | 06.09.2023
SANTA ANA, CALIF., June 09, 2023 — Fidelity Bancorp Funding Inc., a leading financial institution specializing in commercial real estate, multifamily and single-family residential bridge loans and permanent financing, is pleased to announce the appointment of Charlie Woo as President of its private lending group, Fidelity Bridge Loans LLC. In this role, Woo will be responsible for expanding the companies Bridge Lending division.
Woo brings over 27 years of real estate finance experience to Fidelity Bancorp Funding Inc., most recently serving as Vice Chairman in Wells Fargo’s Corporate & Investment Banking division. His achievements at Wells Fargo includes becoming the youngest Vice Chair in the firm's history where he specialized in mergers & acquisitions, as well as debt and equity capital raises for clients across the United States. He led Wells Fargo’s U.S. regional investment banking coverage group and demonstrated remarkable results in the specialty finance and alternative lending sectors.
“Regional banks originated 62 percent of all commercial real estate loans in 2022,” said David Frosh, CEO of Fidelity Bancorp Funding. “Higher interest rates and the resulting balance sheet stress has caused these banks to tighten their purse strings which has created a significant growth opportunity for private lenders like Fidelity Bridge Loans.”
Frosh continued by saying “We are confident in Charlie's ability to lead the company's efforts in expanding this business. At Wells Fargo, Charlie's team advised on more M&A deals in private and alternative lending than any other advisor on Wall Street.”
"I have followed the leadership team at Fidelity for 14 years," said Woo. "I was especially attracted Fidelity Bancorp Funding’s consistent success as a private lender and the conservative nature of their fund. The company is well positioned to provide an excellent product to borrowers and continued outstanding returns to investors."
Throughout his career Woo has held significant roles within the industry. He led the western United States for Silver Point Capital, one of the largest and most successful hedge funds focused on private credit and special situation investments. Woo also served as a senior investment banker at Citigroup and gained valuable experience in the M&A group at Morgan Stanley early in his career. Woo holds an A.B. degree from Harvard University and also attended Harvard Business School.
About Fidelity Bancorp Funding
Fidelity Bancorp Funding is a leading financial institution specializing in Commercial Real Estate, Multifamily and Single Family Residential Bridge loans and permanent financing. Over 30 years Fidelity Bancorp Funding has earned the trust of thousands of customers and completed billions of dollars in financing. For more information, please visit www.fbfloans.com.
Media Relations
(714) 908-5100
info@fbfloans.com
Fidelity Bancorp prepares to Scale Bridge Platform as Banks Step Back | 06.23.2023
Samantha Rowan | Real Estate Capital USA
Fidelity Bancorp Funding is gearing up to expand its small-balance bridge lending platform, with the aim of raising capital from institutional and high-net-worth investors to help fill the gap as banks scale back their activity.
Charlie Woo, president of the firm’s bridge lending platform, joined Santa Ana, California-based Fidelity Bancorp this month from San Francisco-based bank Wells Fargo to spearhead an initiative that will include growing loan originations and borrower relationships as well as expanding the firm’s roster of investors. Woo will draw on his experience in the real estate finance sector, which included a long tenure as a vice-chairman in Wells Fargo’s investment bank.
“I was very active in the private credit and bridge lending sector but was more active from an M&A and capital raising standpoint. In that role, I saw an institutionalization of the capital flowing into this space,” Woo said. “The lure of doing this on the principal side was too much.”
In his role as president of the firm’s bridge lending business, Woo will wear multiple hats. “It will include everything from sitting on the investment committee to continuing capital raising as well as overseeing a lot of these loan originations and servicing functions,” he said. Woo has a long relationship with
David Frosh, Fidelity’s chief executive, who outlined a space in the market for alternative lenders to expand their market share. “Regional banks originated 62 percent of all commercial real estate loans in 2022. Higher interest rates and the resulting balance sheet stress has caused these banks to tighten their purse strings, which has created a significant growth opportunity for private lenders,” he said.
During his career, Woo has observed an environment in which there has long been room for private credit and bridge funds.
“The need is greater than ever,” Woo said. “From our standpoint, it means
that we can fill in that gap for sponsors, but we can be very prudent and more selective about the deals we take on. And from a capital markets standpoint, some situations that regional banks could or would do because it fits their parameters, they are finding that they can’t because of extraneous factors. That is where we come in.”
Woo believes there will be greater high- net-worth and institutional allocations to commercial real estate debt.
“When I was sitting on the other side, tens of billions flooded in to fill that void and I expect that will continue at a pace that is even greater. It is a great space to be in as an investor, whether as an institution or an individual. But as some of the regulations get tight, there will be a lot of good, prudent loans that private lenders can fund,” Woo said.
“If you have patient capital, whether it be from individuals or institutions, a track record that you can point to, and a good approach for borrowers who are seeking capital and a secure foundation for investors who are looking to put money into the space, it is a great medium to be in.
“My prediction is that there will be more institutional money that comes into this space, but it will be commingled with individuals. Then it is long-term, patient capital from a variety of sources and can weather a lot of storms, as long as your loan portfolio is safe and producing.”
The firm is looking to originate loans of less than $20 million in a variety of sectors, including multifamily, mixed-use, industrial, retail, single-family residential and properties in varying stages of construction or rehabilitation. “A lot of the bridge loans present themselves because there is some sort of transitional period, which is what we are trying to solve for,” Woo said.