There seems to be hope abounding in commercial real estate, according to the Federal Reserve’s Beige Book. Optimism tends to look toward the future — in this case, when the industry hopes interest rates will drop.
In the reality of the moment, though, that hasn’t changed how higher rates are still limiting real estate deals, as reported by the various Federal Reserve district banks and what they’re hearing from people in their multi-state regions. And the optimism may ultimately end, as the excitement over interest rate reductions may be premature.
Consider the following excerpts from the report.
Boston: “Commercial real estate activity weakened further modestly, and the outlook in that sector remained mostly pessimistic, despite expected declines in borrowing rates. In the already-weak office market, vacancy rates increased moderately on average, and Providence in particular saw the exit of a large downtown tenant. Office rents fell noticeably in the Boston area in recent months but were reportedly stable (if low) elsewhere. Demand for life sciences space in greater Boston dwindled further to very low levels. In the retail market, rents and vacancy rates were mostly steady at moderate levels, although lower-end malls continued to see elevated vacancies. Demand for industrial space slowed further at a modest pace, but rents and occupancy rates were described as mostly stable at healthy levels. Projections for commercial real estate activity in 2024 were mixed but remained pessimistic on balance.”
New York: “Commercial real estate markets mostly held steady. New York City office vacancy rates were steady near historic highs and rents declined slightly. Upstate New York office markets saw continued increases in vacancy rates, but rents were unchanged. In the industrial market, small improvements were seen in downstate New York while conditions in upstate New York deteriorated. Construction contacts reported that activity declined modestly since the last report. Office construction dropped, but industrial construction grew with high volumes under construction and significant deliveries set for 2024 in downstate New York and northern New Jersey.”
Philadelphia: “In nonresidential markets, leasing activity and transaction volumes continued to decline slightly—more so in the office market in which existing tenants continued to downsize their space and upgrade their quality as their leases expired. In contrast, current construction activity held steady, although many contacts expect that the project pipeline will shrink before the end of 2024. New projects are slowly emerging in heavy industry and infrastructure.” However, banks in the region generally noticed modest growth in CRE loan volumes.
Cleveland: “Residential construction and real estate contacts reported that activity remained soft in recent weeks. However, one homebuilder reported an increase in inquiries as mortgage rates declined. Nonresidential construction rebounded in recent weeks. One commercial builder noted that declining interest rates and greater optimism about the economic outlook had boosted demand. Moreover, multiple general contractors reported that customers had elected to move forward with previously delayed projects. Commercial real estate and construction contacts expected demand to remain mostly stable in the near term.”
Richmond: “Overall market activity in commercial real estate was flat this period. Retail remained strong, especially with fast casual restaurant chains. In the office sector, Class A office space was tightening with more leasing activity related to firms upgrading their space and moving away from central business districts. A lack of available financing continued to constrain new development and refinancing within the broader CRE sector. Construction projects were mainly limited to the industrial and multifamily segments. Contractors noted that due to the high cost of construction there were few new CRE projects and, as such, their backlog of work was shrinking.”
Atlanta: “The Sixth District’s office market continued to encounter negative absorption rates and diminishing occupancies. Leasing activity at the end of 2023 dropped to 2020 levels, creating a ‘tenant’s market,’ where landlords were forced to offer incentives. Market conditions are expected to remain challenged in 2024 as new construction is delivered. Other property segments experienced weakening conditions as well; contacts in industrial markets reported that the amount of square feet in the pipeline is running well ahead of absorption, resulting in higher vacancy levels. Contacts expressed concerns over rising commercial real estate loan maturities in 2024.”
Chicago: “Construction and real estate activity was little changed on balance over the reporting period. Nonresidential construction activity increased slightly, while prices were unchanged. One auto dealership group said that the expectation interest rates would begin falling soon was a factor in their proceeding with a project to increase service-center capacity. Commercial real estate activity was unchanged. Demand for industrial properties remained at elevated levels. While prices fell slightly, rents, vacancy rates and the availability of sublease space were all unchanged.”
St. Louis: “Commercial real estate rental markets continue to be stagnant in the office sector for downtown areas. Contacts reported continued commercial real estate sales in Northwest Arkansas, including two large multi-family units and a couple of retail sales. A large multi-family community is expected to start construction in Northwest Arkansas in early 2024.”
Minneapolis: “Construction activity was lower overall since the last report. Among roughly two dozen construction contacts, recent sales were lower and profits have been particularly hard hit. Recent hiring demand has fallen somewhat, but sentiment was modestly more positive for the early part of 2024. Among sectors, firms in infrastructure continued to fare better thanks to federal spending. November and December commercial permitting was generally flat or lower in the District’s larger markets compared with a year earlier. Residential building was constrained in many markets, but single-family permitting in Minneapolis-St. Paul saw sustained increases for several months, including December. Commercial real estate was flat overall. Vacancy rates for industrial space have ticked higher thanks to significant speculative building in the last year. Office markets remained soft, and reports of tenant concessions were rising. Retail vacancy has improved modestly thanks to stronger foot-traffic trends and lower levels of new construction.”
Kansas City: “Contacts indicated transaction activity for commercial properties was suppressed in recent weeks. Potential buyers of many office properties, and some multifamily properties, were reportedly waiting for a bottom as loans are set to be repriced over the medium term. Those buyers not waiting on the sidelines were reportedly pricing to a bottom among distressed sellers, resulting in large spreads between bid prices and ask prices that made price discovery difficult in most markets. Some contacts suggested that transaction activity may pick up slightly in coming months as appetites for restructuring loans may increase after year end. Yet, falling rents and rising insurance costs adversely affecting net operating incomes remained widely cited concerns inhibiting loan restructuring when desired.”
Dallas: “Activity in commercial real estate was little changed. Apartment leasing picked up slightly though rents remained flat. Office leasing remained weak; vacancy rates were elevated, and concessions remained widespread. Industrial vacancy rates rose as new supply continued to outpace demand. Macroeconomic uncertainty, high capital costs, and reduced appetite to lend continued to deter investment sales and construction starts across property types.”
San Francisco: “Conditions in the commercial real estate market were mixed. While demand for retail and industrial space was solid, office leasing activity remained weak. Transaction volumes of commercial property sales were down as sellers’ asking prices exceeded what buyers were willing to pay. Construction activity reportedly slowed for private-sector commercial projects due to financing constraints, while construction of government public and infrastructure projects expanded. Challenges obtaining some materials, particularly electrical equipment, persisted.”
Source: GlobeSt.
The Banks Are Not Okay
“Bad” doesn’t adequately express the last few days for New York Community Bancorp.
As the close of Thursday, shares were down 44.6% after the bank revealed a 2023 Q4 loss of $252 million rather than the Q3 $207 million gain. Markets remembered that there are still significant concerns about commercial real estate and its loans.
New York Community had acquired much of the deposits and loan assets from failed Signature Bank, and it added a $552 million provision for future credit losses, plus $185 million in net charge-offs, plus cut dividends by 70% to bolster capital.
Despite repeated assurances from the Federal Reserve and the Treasury department that banks are fundamentally sound, real-time results for banks have become reminders to markets that all is apparently not well.
The problems facing New York Community were more than Signature. A New York co-op loan that wasn’t in default nevertheless is now up from sale because of “a unique feature that pre-funded capital expenditures.” There was also an “additional charge-off on an office loan that went non-accrual during the third quarter, based on an updated valuation.”
Even worse, all this was unanticipated by investors because the bank had not prepared markets for the bad news.
From a market view, compounding all this was that the acquisitions from Signature and 2022’s acquisition of Flagstar Bancorp boosted New York Community’s total assets to more than $100 billion. That put the institution, as it noted, “firmly in the Category IV large bank class of banks between $100 billion and $250 billion in assets and subjecting us to enhanced prudential standards, including risk-based and leverage capital requirements, liquidity standards, requirements for overall risk management and stress testing.”
Moody’s placed the bank on review for a downgrade
But there was compounding news from elsewhere in the world, as the Wall Street Journal reminded. Azora Bank of Japan saw shares drop 20%, “the maximum allowed on a single day under stock-market rules, after it said losses in its U.S. office-loan portfolio will likely lead to a net loss for the year ending in March.” The annual loss will be the first in 15 years and its president will step down April 1. And then, Deutsche Bank “increased loss provisions in its U.S. commercial loan book nearly fivefold from 2022’s fourth quarter to 123 million euros, equivalent to $133 million.”
Concerns about conditions in CRE might push banks into restricting lending even more, which would reduce available financing and make the industry more dependent on alternative funding sources, like private equity, with significant higher financing costs than commercial banks.
Source: GlobeSt.
SEC Doubles Down On Bank CRE Loan Scrutiny
Commercial real estate got some indirect bad news.
The Securities and Exchange Commission sent letter exchanges to several community or regional banks about potential exposure to CRE loans, as the Wall Street Journal reported.
The agency contacted Alerus Financial and the holding companies behind Mid Penn Bank, Ohio Valley Bank and MainStreet Bank. The letters were “to request more clarity in their disclosures around the potential consequences from the failures of First Republic Bank, Silicon Valley Bank and Signature Bank.”
The three banks were closed and put into receivership by the Federal Deposit Insurance Corporation. Certain long-term bond assets that the banks held lost a lot of value as the Federal Reserve drove interest up in an attempt to curb inflation. When interest rates rise, bond values at previous lower interest rates lose value. These bonds were classified by the banks as held-to-maturity, meaning they could be treated as keeping their face value. But concerned depositors pulled large amounts of money out of the banks. That forced the institutions to sell bonds, which then were marked to market, losing liquidity and pushing the banks toward insolvency.
CRE loans aren’t the same as bonds, but there are two ways they could lose value. One is that increased interest rates could put borrowers with loans coming to maturity into a position where they can’t get refinancing. The lending bank would at least have to modify the loan, which could affect depositor trust and willingness to leave their deposits in place. Or the borrower could outright default.
The other way they could suddenly lose value is if the valuation of the property dropped — something happening broadly across all asset types, as GlobeSt.com has reported. That could leave the loan underwater, increasing risk and leaving depositors concerned and, again, possibly pulling out money and threatening the bank’s liquidity and potentially solvency.
Small, mid-size, and regional banks were the originators of many of the existing CRE loans. Unlike consumer mortgages, the banks don’t sell off the loans, leaving them holding all the risk.
The SEC asked the banks to provide a more specific breakdown of CRE loan portfolios by property type, geography, and other factors.
Although the SEC has only made direct requests of these banks, the thousands of other institutions could see this as a pressure they too could face. Banks might further restrict their lending activity in 2024, increasing scrutiny and tightening underwriting standards, like loan-to-value ratios, even more than has previously happened.
Source: GlobeSt.
Distress Levels Hit $85.8B In 2023
There’s an interesting question about the current level of distress in commercial real estate. How much is there?
Some amount seems to be secret, as in not easily identified, instead being handled privately without an obvious full run-on distressed properties. And then there are properties on the brink but not yet in the distressed category.
MSCI’s US distress tracker report tries to make this clearer by discussing actual and potential distress. Distress “indicates direct knowledge of property-level distress,” they wrote.
Actual distress, according to the firm, totaled nearly $85.8 billion through the fourth quarter of 2023. Roughly $35.5 billion was office, $21.6 billion in retail, $14.7 billion in hotels, $9.6 billion in apartment, $1.6 in industrial, and $2.8 billion in other. But that is explicitly property-level distress.
Geographically that represents $10.3 billion for Mid-Atlantic, $13.4 billion in Midwest, $26.9 billion in Northeast, $8.6 billion in Southeast, $9.2 billion in Southwest, and $16.7 billion in West.
Loans privately modified to keep them from being written down or publicly disclosed would not be caught up in this category.
That’s split up as follows: $67.3 billion in apartments, $54.7 billion in office, $35.5 billion in hotels, $34.9 billion in retail, $29.0 billion in industrial, and $13.3 billion in other.
Geographically, that represents $23.3 billion for Mid-Atlantic, $31.3 billion in Midwest, $47.5 billion in Northeast, $43.5 billion in Southeast, $33.3 billion in Southwest, and $55.5 billion in West.
Source: GlobeSt.
Triple Net Lease Cap Rates Still On The Rise
You might know that Sound of Music sing-a-longs are a thing in live theater and online. You can bet that one of the favorites is Climb Every Mountain. If only triple net lease could step out of the spotlight.
Unfortunately, the sector seems to be providing encore performances as average closing cap rates keep their upward inclination, according to the Lomuto Report out of Northmarq.
The mechanisms at work seem clear. In short, there’s more supply and less demand, squeezing out the value owners can claim and lowering the willingness of buyers to pay higher prices. As long as the conditions continue, there’s upward pressure on closing cap rates.
Though Lomuto notes some trends that could eventually head things off and restore a more dynamic market. For example, the average asking cap rate trend for all NNN started to rise in May 2022, when they were about 5.25%. With some minor ups and downs, it’s continued to rise and has gained roughly 100 basis points to 6.25%. Owners are recognizing that they can no longer expect as much as they could have in the near past when markets were at a high and the full impact of higher interest rates hadn’t yet been felt.
With the rise in asking cap rates had been compression of the gap between them and benchmark yields from, in the case of the federal funds rate, 587 basis points in January 2021 to 91 basis points in December 2023. The gap to the 10-year Treasury had been 488 basis points in that same January and now are 222. The S&P 500 earnings were spaced out by 295 and now that gap is 239. All in all, the biggest gap is within under 240 basis points.
Where things can get a little odd is looking at cap rates by product type. Lomuto shows a number of categories: auto and car wash, convenience and gas, dollar stores, grocery, industrial, office, pharmacy, and QSR. Measured from peak pricing, pharmacy is up by only 75 basis points (he points out that issues with Rite Aid and Walgreens should have had more effect). Grocery, one of the die-hard categories, has seen cap rates up over dollar stores. And office seems up only by 50 basis points — okay, more than odd, more like crazy.
When transactions are thinner than usual, “it’s very important to look critically at individual comps, including a thoughtful survey of what else is on the market now, when quoting a cap rate.”
Source: GlobeSt.
When Is The Yield Curve Finally Going To Normalize?
Bond traders are getting certain that a long-time aberration in how Treasury bond prices and yields work is about to head back to normal.
They expect that the yield on the 10-year Treasury will rise above the 2-year (though academics often monitor the 3-month and the 10-year), Bloomberg reports.
A look at the numbers at the Federal Reserve Bank of St. Louis’ FRED website shows that July 5, 2022, was when the yields on the 2-year and 10-year Treasurys were the same. Since then, the 10-year sunk below, and there’s been an inverted yield curve. The 3-month and 10-year difference inverted on October 25, 2022. A long haul, either way you look at it.
Inversions lasting for an extended period are generally taken to mean that there’s a recession on its way … eventually. As US News & World Report noted last year, the average time between an inversion and a recession is 12 to 24 months, although the shortest period in 2019 was six months.
The theory behind the yield tea leaves is that investors are sure there’s a recession coming and so they lock in even at lower rates now because they’re sure the Federal Reserve will cut rates to stimulate the economy, making Treasury yields drop.
Harley Bassman, a big name in bonds, told Bloomberg earlier in the month, “It’s done. Stick a fork in it, man. The 10s aren’t moving.” Instead, he expects yields on the short end of the curve to drop and normalize the yield curve.
Bill Gross, another bond expert, said on social media that the Treasury 10-year with a 4% yield, around which it has lately hovered, is “overvalued.” Jeffrey Gundlach, founder, CEO, and chief investment officer of Doubleline, a money management firm that is a big player in the bond market. He said in a December 2023 CNBC interview that when the yield level of the 10-year Treasury market goes below 4%, it sounds “almost like a fire alarm” and that the 10-year yield would drop to the low 3s by sometime this year.
But then, the 10-year yield has been climbing a bit over the last week, the 3-month has been steady, and the 2-year has been increasing. Some of the prognosticators will be right, others will be wrong, unless things manage to stay in a rough limbo, leaving everyone wondering. But there’s no definite answer right now.
Source: GlobeSt.
Fed Finds Optimism for Future, Grim Reality On The Ground
There seems to be hope abounding in commercial real estate, according to the Federal Reserve’s Beige Book. Optimism tends to look toward the future — in this case, when the industry hopes interest rates will drop.
In the reality of the moment, though, that hasn’t changed how higher rates are still limiting real estate deals, as reported by the various Federal Reserve district banks and what they’re hearing from people in their multi-state regions. And the optimism may ultimately end, as the excitement over interest rate reductions may be premature.
Consider the following excerpts from the report.
Boston: “Commercial real estate activity weakened further modestly, and the outlook in that sector remained mostly pessimistic, despite expected declines in borrowing rates. In the already-weak office market, vacancy rates increased moderately on average, and Providence in particular saw the exit of a large downtown tenant. Office rents fell noticeably in the Boston area in recent months but were reportedly stable (if low) elsewhere. Demand for life sciences space in greater Boston dwindled further to very low levels. In the retail market, rents and vacancy rates were mostly steady at moderate levels, although lower-end malls continued to see elevated vacancies. Demand for industrial space slowed further at a modest pace, but rents and occupancy rates were described as mostly stable at healthy levels. Projections for commercial real estate activity in 2024 were mixed but remained pessimistic on balance.”
New York: “Commercial real estate markets mostly held steady. New York City office vacancy rates were steady near historic highs and rents declined slightly. Upstate New York office markets saw continued increases in vacancy rates, but rents were unchanged. In the industrial market, small improvements were seen in downstate New York while conditions in upstate New York deteriorated. Construction contacts reported that activity declined modestly since the last report. Office construction dropped, but industrial construction grew with high volumes under construction and significant deliveries set for 2024 in downstate New York and northern New Jersey.”
Philadelphia: “In nonresidential markets, leasing activity and transaction volumes continued to decline slightly—more so in the office market in which existing tenants continued to downsize their space and upgrade their quality as their leases expired. In contrast, current construction activity held steady, although many contacts expect that the project pipeline will shrink before the end of 2024. New projects are slowly emerging in heavy industry and infrastructure.” However, banks in the region generally noticed modest growth in CRE loan volumes.
Cleveland: “Residential construction and real estate contacts reported that activity remained soft in recent weeks. However, one homebuilder reported an increase in inquiries as mortgage rates declined. Nonresidential construction rebounded in recent weeks. One commercial builder noted that declining interest rates and greater optimism about the economic outlook had boosted demand. Moreover, multiple general contractors reported that customers had elected to move forward with previously delayed projects. Commercial real estate and construction contacts expected demand to remain mostly stable in the near term.”
Richmond: “Overall market activity in commercial real estate was flat this period. Retail remained strong, especially with fast casual restaurant chains. In the office sector, Class A office space was tightening with more leasing activity related to firms upgrading their space and moving away from central business districts. A lack of available financing continued to constrain new development and refinancing within the broader CRE sector. Construction projects were mainly limited to the industrial and multifamily segments. Contractors noted that due to the high cost of construction there were few new CRE projects and, as such, their backlog of work was shrinking.”
Atlanta: “The Sixth District’s office market continued to encounter negative absorption rates and diminishing occupancies. Leasing activity at the end of 2023 dropped to 2020 levels, creating a ‘tenant’s market,’ where landlords were forced to offer incentives. Market conditions are expected to remain challenged in 2024 as new construction is delivered. Other property segments experienced weakening conditions as well; contacts in industrial markets reported that the amount of square feet in the pipeline is running well ahead of absorption, resulting in higher vacancy levels. Contacts expressed concerns over rising commercial real estate loan maturities in 2024.”
Chicago: “Construction and real estate activity was little changed on balance over the reporting period. Nonresidential construction activity increased slightly, while prices were unchanged. One auto dealership group said that the expectation interest rates would begin falling soon was a factor in their proceeding with a project to increase service-center capacity. Commercial real estate activity was unchanged. Demand for industrial properties remained at elevated levels. While prices fell slightly, rents, vacancy rates and the availability of sublease space were all unchanged.”
St. Louis: “Commercial real estate rental markets continue to be stagnant in the office sector for downtown areas. Contacts reported continued commercial real estate sales in Northwest Arkansas, including two large multi-family units and a couple of retail sales. A large multi-family community is expected to start construction in Northwest Arkansas in early 2024.”
Minneapolis: “Construction activity was lower overall since the last report. Among roughly two dozen construction contacts, recent sales were lower and profits have been particularly hard hit. Recent hiring demand has fallen somewhat, but sentiment was modestly more positive for the early part of 2024. Among sectors, firms in infrastructure continued to fare better thanks to federal spending. November and December commercial permitting was generally flat or lower in the District’s larger markets compared with a year earlier. Residential building was constrained in many markets, but single-family permitting in Minneapolis-St. Paul saw sustained increases for several months, including December. Commercial real estate was flat overall. Vacancy rates for industrial space have ticked higher thanks to significant speculative building in the last year. Office markets remained soft, and reports of tenant concessions were rising. Retail vacancy has improved modestly thanks to stronger foot-traffic trends and lower levels of new construction.”
Kansas City: “Contacts indicated transaction activity for commercial properties was suppressed in recent weeks. Potential buyers of many office properties, and some multifamily properties, were reportedly waiting for a bottom as loans are set to be repriced over the medium term. Those buyers not waiting on the sidelines were reportedly pricing to a bottom among distressed sellers, resulting in large spreads between bid prices and ask prices that made price discovery difficult in most markets. Some contacts suggested that transaction activity may pick up slightly in coming months as appetites for restructuring loans may increase after year end. Yet, falling rents and rising insurance costs adversely affecting net operating incomes remained widely cited concerns inhibiting loan restructuring when desired.”
Dallas: “Activity in commercial real estate was little changed. Apartment leasing picked up slightly though rents remained flat. Office leasing remained weak; vacancy rates were elevated, and concessions remained widespread. Industrial vacancy rates rose as new supply continued to outpace demand. Macroeconomic uncertainty, high capital costs, and reduced appetite to lend continued to deter investment sales and construction starts across property types.”
San Francisco: “Conditions in the commercial real estate market were mixed. While demand for retail and industrial space was solid, office leasing activity remained weak. Transaction volumes of commercial property sales were down as sellers’ asking prices exceeded what buyers were willing to pay. Construction activity reportedly slowed for private-sector commercial projects due to financing constraints, while construction of government public and infrastructure projects expanded. Challenges obtaining some materials, particularly electrical equipment, persisted.”
Source: GlobeSt.
Refinancing To Be Much Harder For CMBS This Year
A CMBS report from Fitch Ratings projects that the refinancing prospects of the category will be ‘materially weaker” in 2024 than in 2023. It’s one of the main reasons that the firm said that CMBS delinquencies would hit 4.50% in 2024 and 4.90% in 2025.
Fitch used two different scenarios to see if a loan would meet debt service coverage and loan-to-value ratios to gain refinancing “at higher interest rates relative to in-place weighted average coupons (WAC) and at market capitalization rates.”
Although it didn’t reveal details of the estimates, the two scenarios involved having particular minimum DSCR or LTV values.
For the 2024 maturities, Fitch calculated a likely lower refinance rate than the 73% for maturing loans in the 15 months since October 2022. Currently, under 48% can satisfy the minimum DCSR of 1.75x for an interest-only loan or 1.40x for an agency loan. Only 46% can satisfy a maximum 55% LTV (remembering that properties have seen significant drops in valuation while the interest-only loan won’t have seen reduced principal).
In total, about 50% of the $15.6 billion in maturing loans in 2024 wouldn’t be able to refinance. Borrowers would need to add an average of almost a third of the debt in additional equity and 25% under the LTV scenario requirements for refinancing.
In 2025, refinancing should improve, according to Fitch. Under the DSCR scenario, 75% of maturing properties should be able to refinance, and under the LTV scenario, 51% should. But about 25% of the maturing loan volume, or $9.3 billion, in 2025 wouldn’t be able to refinance. That would mean additional equity of 15% or 10% of the existing debt under the DSCR and LTV scenarios, respectively, would be needed from owners to pass refinancing thresholds.
Source: GlobeSt.
Maturing Loans Will Bring More Clarity To Capital Markets
Even the experts appear reluctant to predict what 2024 holds for the commercial and multifamily mortgage markets, though they hope the year will bring more clarity.
The just-released Mortgage Bankers Association’s 2024 Commercial Real Estate Finance Outlook Survey describes an unsettled market for borrowing and lending – but anticipates conditions will stabilize in the new year.
One thing is clear. Even though borrowing has declined, the level of outstanding mortgage debt has continued to rise. “A decline in sales transaction and refinance volumes has meant less new debt being extended, but it also means that fewer loans are paying off than in many earlier periods. The result is that debt levels continue to rise, but at a pace that is roughly half of what was seen last year,” the report stated.
Virtually every type of lender increased the dollar volume of its holdings of commercial/multifamily debt.
This has happened even though CRE mortgage borrowing plummeted 53% in the year to date. Loan originations fell 7% between 2Q 2023 and 3Q 2023 and 49% year over year – a slump that affected all major property types.
Mortgages that mature in 2024 could bring more clarity to the prospects for the CRE market – “and could force the issue for many owners,” the report stated.
Underlying these problems are questions about property fundamentals, uncertainty about property values, and higher and volatile interest rates. “Greater certainty around these conditions is a key prerequisite to breaking the logjam of transaction activity” that has left many participants on the sidelines, the report commented, noting that the recent drop in long-term interest rates could bring relief to both cap rates and financing costs. At the same time, it pointed out that the Fed’s tight money policy could still have impacts in the future and tightening of credit is also possible.
Meanwhile, different analysts produce different conclusions on how property values are being affected.
RCA found apartment cap rates rose to 5.2% in 3Q 2023, industrial cap rates to 5.9%, retail to 6.6% and office to 6.9%. MBA’s own models predicted a more substantial rise but said market uncertainty makes the situation unclear.
Each sector of CRE faces difficulties. Offices are grappling with how hybrid work will affect demand for office space, leaving owners to figure out which properties will be most affected. Quality of buildings rather than age, is said to be most important. Industrial and multifamily properties are facing a supply glut that outstrips demand and slows rent growth, though industrial vacancy rates remain low and rent growth remains positive. Retail, especially general purpose buildings, is seeing demand but some malls are experiencing negative net absorption.
As CRE markets confront these challenges, there has been a slow and steady uptick in delinquency rates, the report found. The share of properties with outstanding loan balances that were current or less than 30 days late fell from 97.7% at the end of 2Q 2023 to 97.3% at the end of 3Q 2023. Loans backed by office properties were largely responsible, with delinquent loans up from 4% to 5.1%. However, all sectors saw delinquencies rise, though for multifamily and industrial property the hike was less than one percent. And every capital source saw an uptick in unpaid principal balances.
The findings are based on a survey sent to leaders at 60 of the top commercial and multifamily mortgage origination firms, with a 40% response rate.
Frivolous Lawsuits Found Not To Be The Cause Of Insurance Premium Surge In Florida
Homeowners’ lawsuits against insurance companies did not cause record losses and rapidly escalating insurance premiums in Florida, according to a new study.
But frivolous litigation has made a bad situation worse, with a disproportionate amount of lawsuits filed in Miami-Dade, Broward and Palm Beach counties. That confirms what the insurance industry has said for years — to a certain extent — the Miami Herald reports.
The Florida Legislature tasked the state’s Office of Insurance Regulation with completing the report. Last year, lawmakers passed legislation making it harder and more expensive for consumers to sue their insurers, in response to the repeated claim that superficial lawsuits were driving the rising cost of premiums.
The report found that litigated claims in the tri-county region in 2022 were six times more expensive than claims that did not result in a lawsuit. The more than 58,000 claims that were litigated in 2022 made up less than 8 percent of claims closed that year, and less than 1 percent of the policies in effect at the time. Insurance companies spent about $580 million on the litigated claims out of nearly $16 billion that Floridians paid in premiums, according to the Herald. That also amounts to less than 1 percent.
Policyholders were more likely to sue the longer it took for their insurer to close a claim, suggesting that some lawsuits were filed because of insurers’ modi operandi.
Insurance regulators collected the data from insurers under a 2021 bill that Gov. Ron DeSantis approved. Many insurers missed their deadlines or produced insufficient or incorrect information, Florida Insurance Commissioner Mike Yaworsky told the Herald.
Insurance premiums have doubled, tripled or quadrupled for some owners of commercial and residential real estate in recent years, hampering sales and forcing some to sell their properties at a discount or risk forgoing coverage if they’re able. Some insurers have stopped writing new business, scaled back or gone out of business across Florida.
Source: The Real Deal
Money Markets Expect Rates To Stay High For Years
Listening to discussions about what will happen with interest rates in 2024 is like walking into an open house at The Oxford Union of the namesake university. Debates to the right and left with the audience voting on the most compelling argument.
One of the loudest collective voices in the rate debate are the money markets, and they’re nowhere near as optimistic as those cheering a soft landing of the country’s economic airplane, according to Reuters. Financial markets are expecting interest rates to remain high for an extended period of time — 3% for years — with inflation still higher than the Fed wants and government spending driving new heights of public debt.
The former means the Fed could limit cuts and the latter will mean more U.S. borrowing at higher yields to attract buyers. The yields, especially for the 10-year, create an attractive place for investors to put money with relative safety, boosting the rates other outlets must get to provide risk-adjusted returns and compete as investment opportunities. In other words, don’t expect the decade of near-zero rates to return.
The Federal Reserve’s most recent collection of economic expectations show the projected federal funds rate range to be 4.4% to 4.9% this year, 3.1% to 3.9% next year, 2.5% to 3.1% in 2026, and 2.5% to 3.0% in the longer run.
The warnings aren’t coming only from money markets. There have been polar takes on the edge.
As Jeffrey Gundlach — founder, CEO, and chief investment officer of Doubleline, and money management firm that is a big player in the bond market — told CNBC in an interview that when the yield level of the 10-year Treasury market goes below 4%, it sounds “almost like a fire alarm.” And the 10-year has been hovering under 4% since mid-December. If Gundlach is right and lower 10-year yields are portents of a recession next year, the Feds might raise interest rates as a way to drive down price hikes.
In other words, near-zero interest rates may be long out of play no matter how you look at current conditions.
Source: GlobeSt.