The apartment and industrial sectors are clearly the darlings of the commercial real estate lending community. According to an exclusive online survey of direct lenders and financial intermediaries conducted nationally by France Media, 82 percent of respondents identify the multifamily sector as providing the most attractive financing opportunities for lenders in 2020, while 67 percent cite industrial real estate (Figure 1).
A closer look at the fundamentals of the multifamily and industrial sectors helps explain why lenders favor these two property types.
In its 2020 U.S. Real Estate Market Outlook report, CBRE Research forecasts multifamily demand to remain sufficient enough to absorb most of the new supply and to lower concessions in oversupplied markets. More specifically, the brokerage services giant projects multifamily completions will total 280,000 units in 2020, on par with an estimated 281,000 units delivered in 2019. While CBRE forecasts the multifamily vacancy rate to edge up 20 basis points to 4.5 percent in 2020, it is expected to remain under its long-term average of 5.1 percent.
Despite some softening in the industrial and logistics market, overall fundamentals will remain strong due to continued e-commerce penetration and demand for logistics space, predicts CBRE. Supply is expected to outpace demand by 20 million to 30 million square feet nationally in 2020, and the vacancy rate is forecast to rise slightly but remain near historic lows. The U.S. industrial vacancy rate was 4.4 percent in the third quarter of 2019.
Greg Warsek, senior vice president with Associated Bank’s commercial real estate division, says attractive lending opportunities aren’t just limited to multifamily and industrial properties. “We’re also seeing nice opportunities in office space and even retail space. There are still retail projects occurring as a result of this disruption,” he said in a telephone interview, referring to the explosive growth of e-commerce.
However, respondents’ overall view of retail is bearish. Nearly two-thirds of respondents (65 percent) indicate that retail real estate offers the least attractive financing opportunities, while 55 percent cite hotels as the least desirable.
Business Outlook
Nearly two-thirds of respondents (64 percent) expect the total dollar amount of commercial and multifamily loans closed by their firm in 2020 to increase on a year-over-year basis, 28 percent expect deal volume to remain the same and 8 percent anticipate a decrease in overall activity.
Among respondents who predict the total dollar volume of loans closed by their firm will increase in 2020, the largest group (29 percent) anticipates deal volume will rise 6 to 10 percent. Another 27 percent expects the level of activity to rise by 5 percent or less, and more than one in five respondents (22 percent) projects deal volume to rise 11 to 15 percent.
CMBS Predictions
France Media asked survey participants what their projection is for total domestic CMBS issuance in 2020. The largest group of respondents (24 percent) projects that total issuance will range between $80 billion and $89 billion. The next largest group (22 percent) is a bit more optimistic and expects total issuance to range between $90 billion and $99 billion (Figure 2).
The commercial mortgage-backed securities (CMBS) market plays a vital role in providing long-term, fixed-rate financing to borrowers across property types, particularly in secondary and tertiary markets.
Thanks to a strong second-half rally in 2019, domestic private-label CMBS issuance was on track to total between $86 billion and $95 billion for the year, up from $76.1 billion in 2018, according to Commercial Real Estate Direct, a publication that closely tracks the industry.
Researchers say a couple of factors were behind the spike in annual CMBS issuance in 2019, including low spread volatility and a 10-year Treasury yield that fell well below 2 percent. Non-CMBS lenders such as life insurance companies have become more hesitant to make 10-year loans to borrowers at interest rates under 4 percent.
Headwinds, Tailwinds Ahead
In the write-in portion of the survey, participants were asked what they see as the greatest opportunity and/or challenge for the commercial real estate industry in 2020. The nation’s political divide and legislative risk were top of mind with many respondents.
“If Trump is not re-elected, everything will be a challenge,” wrote one anonymous respondent, referring to U.S. President Donald Trump’s economic policies that have championed lower tax rates for individuals and corporations and embraced deregulation.
Sloan Stevens, director of originations for Hunt Real Estate Capital, wrote that trade and political uncertainty pose a threat. “Businesses are reluctant to invest when they are unsure of the future of inputs to their domestic economy and how policy will affect their bottom line going forward.”
Stevens is referring to the on-again, off-again trade wars between the U.S. and several other countries, most notably China. President Trump has imposed billions of dollars in tariffs on Chinese imports in order to narrow the U.S. trade deficit with China. That trade deficit hit $419.2 billion in 2018. U.S.-China trade tensions eased somewhat in December when the two sides reached a limited trade pact.
Another hot-button issue among survey participants was rent regulation, which presents a challenge for apartment landlords, notes Daniel Hartnett, director of capital markets for Greysteel. The firm arranges the sale and financing of multifamily properties nationally.
A new rent control law in California that went into effect on Jan. 1 caps annual rent increases to 5 percent plus inflation until 2030 and prevents landlords from evicting residents without cause. It is estimated the law will cover 8 million of California’s 17 million renters.
Doug Bibby, president of the National Multifamily Housing Council, in September issued a statement that said California’s measure “will discourage investment, shrink the availability of affordable housing that already exists and squeeze even more people struggling in the housing market.”
Michael Klein, CEO of Freedom Financial Funds LLC, is concerned that many corporations are highly leveraged and continue to push the envelope on their ability to raise debt. “Eventually the debt window will close and the game of refinancing instead of repaying the debt will end,” wrote Klein. At that point some properties will become distressed, he emphasized.
What will be the catalyst for closing the debt window? Probably a significant event of some type, stated Klein. “However, the longer the recovery lasts, the more likely the adjustment will be larger as the underbrush grows taller in the forest of the economy.”
What’s the biggest opportunity for the commercial real estate industry in 2020? “The greatest opportunity lies in the percentage of institutional investors allocating more portfolio percentages toward real estate,” wrote Hartnett. “The market has also become more mainstream and less alternative, which has led to compressed pricing and yields.”
— By Matt Valley, Editorial Director of Regional Publications, France Media. This article first appeared in the January issues of Heartland Real Estate Business, Northeast Real Estate Business, Southeast Real Estate Business, Texas Real Estate Business and Western Real Estate Business.