Holding pattern: How CRE execs plan to weather 2023’s sustained lending volatility

Goldman Sachs, US Bank, Franklin BSP executives anticipate more stress and higher debt costs.

Commercial real estate lenders are hoping for more stability and a return of transaction activity, despite an extended period of elevated interest rates. But senior executives from Goldman Sachs, US Bank and other leading debt providers speaking at the Commercial Real Estate Finance Council’s Annual Conference on June 12 expect dealflow to remain muted.

Michael Comparato, president at New York-based Franklin BSP Realty Trust and head of commercial real estate at Benefit Street Partners, is not optimistic that the market will find surer footing in the near-term.

“I think we get meaningfully worse before we get better, unfortunately,” Comparato said. “I think about the distress coming into the system. [The] office [sector] is an animal of its own.”

Comparato, pointing to a high level of defaults in the office sector, said this phenomenon is not likely to change soon and noted other assets classes could see similar challenges. He noted, however, that as larger institutional managers default on troubled properties, there is less of a stigma for smaller managers who decide to hand back keys on troubled properties to their lenders.

He cited one case in which a construction loan his firm originated had reached maturity – and then the sponsor called to ask where to mail the deed of the New Rochelle, New York multifamily property, instead of paying down the loan or negotiating any extensions.

Regional banking impact

A continued bid-ask spread between buyers and sellers and a pullback from regional and national banks has meant a slowdown in transaction activity, panelists said.

Kim McKee, commercial real estate regional manager at US Bank, said the Minneapolis-based institution is seeing a greater focus on refinancing as acquisition loan requests have dropped. “When the public markets start functioning a little bit better, the balance sheet lenders are going to see [loan] payoffs and that will likely result in more activity on the balance sheet side,” she added.

Megan McElgunn, vice-president and co-head of conventional production and sales in Freddie Mac’s multifamily division, says the McLean, Virginia-based government-sponsored entity is still attempting to quote about $4 billion-$4.5 billion of deals each week.

“There’s a lot of cash-in refinances happening,” she said. “A lot of the discretionary refinance has happened over the last few years when rates were a lot lower.”

Acquisition financings accounted for 31 percent of Freddie Mac’s multifamily pipeline last week, McElgunn noted. “We are seeing some [acquisitions] happening, but what we need is that bid-ask spread to tighten even more than it is right now,” she said.

Gianni Ottaviano, managing director of structured finance at Arbor Realty Trust, said the Uniondale, New York-based real estate investment trust is mostly looking at multifamily refinancing opportunities.

“There is going to have to be some component of cash-in [refinancing] to make most of these deals work,” Ottaviano said. “I think a lot of investors understand that. There are people that are a little bit of longer-term [investors], so they are willing to put the cash up to make the deals work and secure the next 5, 6 or 7 years.”

Working through stress

Creativity has been the key to working through the estimated $1.3 trillion of commercial real estate debt, per MSCI Real Assets, set to mature over the next two years.

Steven Pack, managing director at Goldman Sachs, said the New York-based bank is looking toward joining forces with fellow lenders – including life insurance companies and any partners previously put on a backburner – earlier to get deals done.

Comparato said the next three to six months will be interesting to see play out, given an ‘extend and pretend’ approach does not work when coupons clock in at 8-9 percent. “When coupons are this high, someone is paying,” he said. “If it is not the borrower, it is the lender.”

The US Federal Reserve’s pending June 15 decision on pausing interest rate increases – or at least skipping another 25-basis-point hike this month – is widely expected by the CREFC crowd to determine how the back-half of 2023 starts to shake out.