As banks focus more on permanent debt financing, non-bank lenders and alternative capital sources continue to proliferate the market in search of risk-adjusted yields while also offering customized, unregulated, and more flexible debt structures, pricing, and terms to commercial real estate investors.
During the past decade, individual investors, wealth managers, and institutional investors have all sought to participate in private debt because of the attractive risk/return profile, consistency of income, and relatively short durations – all of which are considered cumulative risk mitigants. The current commercial real estate environment is considered a tremendous opportunity for both lenders and investors alike. Demand is especially strong for bridge loan products that help borrowers manage a property through a transitional phase or some other short-term period, where short-term/immediate change is inevitable at a given property – such as a significant tenant filling a rent roll’s vacancy, or a project that is achieving stabilized occupancy, and/or the completion of new construction or significant renovation/rehabilitation is finalizing.
While the pandemic significantly slowed commercial real estate lending activities earlier this year across both traditional and nontraditional markets, capital needs and borrower demand have remained strong. This has created an attractive dynamic for lending programs with capital to deploy, as they can support this pent-up demand and provide customized financing to borrowers at a time when many banks have pulled back. Nontraditional lending activity is picking up month-over-month as investors are directing more capital to the space, and more lenders are returning to the market. Non-bank lenders with capital to deploy can afford to be more selective on deals today, improving their risk/return profile. We expect this pronounced supply/demand imbalance to persist heading into next year, rewarding capital providers.
Banks continue to be selective in their underwriting and lending activities. Since the 2008 crisis, banks refocused most of their lending activities towards stabilized properties seeking permanent financing. While there are some regional banks that will compete on transitional or other bridge/short-term lending opportunities, banks for the most part today are still focused on providing permanent financing on well-capitalized and stabilized commercial properties. This has created opportunities for non-bank lenders to provide more customized solutions for borrowers with properties that have not been served by traditional banks – such as those looking for interim solutions on a path to permanent financing or exit strategies.
Private lenders have played a very defined and key role over the past decade, filling the demand gap for borrowers as traditional lenders have pulled back. While COVID-19 has caused a significant number of these private lenders to either exit the market, pause/reduce lending activity this year or significantly de-leverage, it has created opportunities for the remaining lenders with ample funding capacity. When supporting borrowers in the current market, private lenders have also become more mindful of the stress and uncertainty in the commercial real estate sector. Given the potential for higher levels of distress as properties and borrowers deal with the effects of COVID-19, private lenders need to be disciplined and diligent in credit assessment, underwriting, future projections, and the pursuit of assets as well as positioning in their market and structuring adequate reserves to withstand the unknowns. Ideal borrowers will have a strong depth and breadth of expertise. It is always prudent to avoid markets or properties where the degree of uncertainty is too extreme to comfortably structure around – a contention that is far more important now than ever before.
Private lenders are needed to help borrowers refinance commercial real estate loans that have matured or assist owners with renovating and/or repositioning office buildings, multifamily, industrial, retail, and other income-producing properties. The demand from borrowers has also created an opportunity for investors. Over the past decade, individual investors, wealth managers, and institutional investors have all sought out private debt because of the attractive risk/return profile, consistent income, and short durations. The current commercial real estate environment is indeed a tremendous opportunity for lenders and investors alike.
The greatest demand in CRE debt financing is currently coming from the bridge loan space. Bridge loans are short-term capital solutions (typically one- to three-year terms) that help borrowers manage a property through a transitional phase or other short-term period. The pandemic has forced many borrowers into unforeseen situations, and they now need time and capital to turn things around. Demand for bridge loans has spiked as many business plans have been uprooted and because loan maturities did not stop with the onset of the pandemic. Borrowers are having to turn to new financial partners, as more lenders pull back to meet loan maturities or other capital needs.