Commercial real estate liquidity, which had been showing signs of overheating in the form of loosened underwriting and cap rate compression, appears to be moderating this year in reaction to market and regulatory forces.
It has been particularly evident in the CMBS market, which has seen a marked slowdown in activity. Year-to-date, private-label CMBS issuance totals $13.9 billion compared with $22.7 billion of issuance during same period in 2015, a decline of 40%, according to global banking firm Jeffries.
Kroll Bond Ratings Agency reduced its 2016 CMBS issuance forecast to as low as $60 billion from its inital projections of $100 billion in private label issuance for the year.
"A number of market and regulatory factors are impacting the commercial and multifamily real estate finance markets," said Jamie Woodwell, vice president of commercial real estate research at the Mortgage Bankers Association (MBA).
Several other Wall Street analysts have reduced their expectations for 2016 commercial mortgage-backed securities (CMBS) issuance by 25% to 30%, Woodwell said.
The more cautioius approach to CRE lending is also showing up among U.S. banks and savings and loans. The MBA cited market factors and regulatory challenges combining to help limit some of that financing, with some spill-over expected to impact different parts of the market, the MBA noted in a research datanote released this week.
As banks continued to increase their CRE lending, the FDIC and other government agencies have taken a series of actions to step up oversight of banks' lending and underwriting, which have had the effect of diminishing banks’ appetites for commercial and multifamily mortgages, the MBA said. These actions include new capital requirements, recent rules regarding high volatility commercial real estate, a regulatory “reminder” of existing CRE guidance for banks, and other rules affecting both whole loan and CMBS holdings.
The latest Federal Reserve Senior Loan Officer Opinion Survey also pointed to tighter financial conditions for CRE, especially multifamily.
The MBA said it expects life insurance companies the government-sponsored enterprises of Freddie Mac and Fannie Mae to continue to serve as steady sources of mortgage debt for commercial and multifamily properties absent any significant market or regulatory changes.
Concerns about future liquidity and where the market goes from here are palpable within the industry, the MBA said.
One area that analysts will be watching is the ability to refinance properties written at the last market peak in 2007. It could become progressively more difficult to pay off those maturing loans on time, according to CMBS analysts at Morningstar. Many CMBS loans maturing in the next two years were aggressively underwritten near the peak of the market in 2007 and remain overleveraged, Morningstar noted.
The payoff rate for CMBS loans reaching maturity in 2016 could slip to 65%-70%, while 2017 payoff rate may slide below 60%, depending on the market’s appetite for loans with borderline metrics, the rating agency said.
Morningstar said the biggest concerns are with weaker loan-to-value ratios among CMBS loans backed by retail and office properties, as these property types face greatest exposure with each accounting for ~30% of 2016 maturities, by unpaid principal balance, Morningstar noted.
However, analysts have noted these concerns for previous years, and the market has always responded in kind, as the increase in property values has enabled the market to easily digest the vast majority of CMBS loan maturities, as Morningstar noted. The question, the ratings agency said, is whether that streak will continue.
“While the payoff rate for 2015 showed impressive refinance demand for maturing loans, it will not be possible to refinance many aggressively leveraged loans made between 2005 and 2007 that haven’t achieved the net cash flow assumptions made at origination,” the rating agency concluded.