Stephanie Mayhew Specht
In the last year, the financial markets have essentially done a 180, and according to Bobby Bakchi, chief executive officer of Hybrid Capital Markets, things are going back to the basics — the way they used to be.
Before the recession gripped the commercial real estate market, the appetite for financing was enormous and generally the conduit market was the way to go. However, that market is now shut down and many in the industry wonder if any form of it will ever come back. Bakchi believes that the most problematic issue with the conduit market was the complete and utter deterioration of underwriting standards, coupled with the fact that rating agencies that were supposed to be watch dogs for the industry were just not doing their job.
“As a result, people thought that they were buying one thing and they really were getting something else. There was a lack of transparency, which made it difficult for the rating agencies to accurately rate these assets,” says Bakchi.
With the conduit market shut down and the fact that many of the bigger banks have pulled back on lending, more and more people are turning to their local and regional banks for financing.
“The regional banks seem to be pretty healthy with a good appetite for lending,” says Bakchi. “Although with a more conservative approach in terms of the kind of leverage that they are offering and the kind of debt service coverage that they are looking for on those transactions.”
Those seeking loans can also find some solace in Fannie Mae and Freddie Mac and the life companies.
“Fannie and Freddie have a mandate to go out there and continue to make loans on multifamily and multifamily mixed-use properties,” Bakchi says. “That is one of the spots where you can still get pretty good leverage on an acquisition. You can still get leverage five to one on a cash flowing asset, unlike other real estate assets where you might only get three to one or two to one.”
However, generally loans from local and regional banks are much smaller than what was seen in the past in the conduit market, which has put large-scale transactions and major developments to a standstill.
“There is no appetite from the big money center banks because of the bad assets they have on their books, and there is no syndication market because no one trusts each other. So, it is very difficult to secure that kind of financing,” Bakchi explains. “The ones that are lending are the life companies, but the pricing on those transactions is much richer than the pricing on the smaller transactions because that kind of money, the big money, is coming at a premium because there is not a lot of it going around.”
Bakchi says that today many of his clients are coming to him seeking financing for everything ranging from acquisitions to recapitalizations and even some financing for new developments, although he does note that there is not much development going on.
Bakchi also adds that, “Trading volume is down significantly as well just because there is no confidence in the marketplace, people don’t know how to value assets, and valuations have not come down enough in the eyes of many.”
In order for the market to improve, financing to start flowing more freely and property values to become clear, Bakchi believes that a few things will need to happen. As businesses fail and vacancy rates increase across the country, rental rates are being driven lower, in turn, putting pressure on values. Thus, the first thing that needs to happen according the Bakchi is a stabilization in the marketplace, so businesses can start to grow again and people can start spending again. Secondly, is the restoration of credit.
“Credit is the oil of the economy, the real estate market, the corporate market, basically the oil of everything,” says Bakchi. “Until credit starts to flow more freely, closer to what was happening back in early 2000s, it is going to be very difficult.”
Bakchi notes that one of the biggest problems in regards to the credit market is going to be the recapitalization of large-scale real estate transactions. An issue that we are already seeing in the marketplace with the downfall of some prime real estate companies.
In order to find the best fit in terms of financing for his clients, Bakchi and his team at Hybrid Capital will go out in the marketplace and see who will, first of all, provide the best and most competitive terms, and, secondly, who can provide the smoothest execution.
“Lately that has been the community banks, the life companies, and some foreign banks,” he explains.
Although financing is tough to come by, there are of course certain property types that lenders are more bullish on than others. Bakchi remarks that, for instance, any owner-occupied properties can often get better leverage with lenders.
“Anything that is owner-occupied,” he says. “If the financials are strong, you can still lever up and get a four to one or a 75 percent LTV loan.”
In addition, the market the property is located in can have a great affect as well. This is most evident in the increase in cap rates for properties located in tertiary markets.
“The tremendous expansion of cap rates in tertiary markets reflects the lack of appetite to finance those kind of transactions. Those are the markets that are most difficult to finance,” says Bakchi. “The coastal cities are the easiest — California, Los Angeles and New York City. Even in Florida, if you have a good asset, it is still doable.”
However, Bakchi says that cap rates are not just going up in the tertiary markets, they are changing constantly in every region and market. So, right now, Bakchi says it is really about staying abreast of the issues and changes for his clients.
“We always try to stay one step ahead of the changes by being conservative in our own underwriting so when we are doing the transaction and working with the lender there are no surprises, no bumps, and we are able to manage our client’s expectations,” he explains. “I think that is very important for anybody in my business to do. A lot of people promise the world and they under deliver. We always aim to over deliver.”
In terms of when the market might begin to pick back up Bakchi says, “Anybody who tells you they know, does not know what they are talking about. Nobody knows for sure.”
He does believe, however, that the stimulus plan that is pumping trillions of dollars of liquidity into the economy will eventually have an affect.
“Hopefully that will be enough to get the economy back on its course to restore confidence and everything should flow from there,” he says. “No one can tell when that might happen, but my hope is the second or third quarter of 2010.”