Over the last few months there has been a crisis of sorts in the credit markets, fueled by defaults in the sub- prime residential mortgage market. What, you ask, do residential mortgages have to do with commercial lending? Plenty, it turns out.
One of the vehicles that sub-prime lenders use to create liquidity on their balance sheets is a CDO, or Collateralized Debt Obligation. Defaults in sub-prime loans have created defaults (or covenant violations) in the underlying CDO. Alas, investment banks and buyers of securitized debt (the mechanism for CMBS or commercial mortgage backed securities) also use the CDO market to create liquidity. CDO investors have not distinguished between the two, and are holding back from further investment in CDOs. The timing is not good - investment banks have significant debt (at least $40 billion) that was priced as if it could be sold through the CMBS market. In addition, this debt was underwritten and priced before the stricter guidelines put into place by the rating agencies. Now that the market has lost liquidity, pricing of debt has become more difficult.
The end result is that lending has become much more conservative. Minimum LTVs have come down, and spreads - the difference between the 10 year treasury and the interest rate - have widened by over 1%. The only bright spot is that the 10 year has come down from its June high of 5.3% to about 4.7% today.
What does this mean for you as an investor? You will still be able to find money - not through the CMBS structure, but through savings banks and insurance companies. You may see 25 year amortizations instead of 30. You may see slightly higher interest rates that you might have expected 3 months ago. If you are trying to leverage a plain vanilla purchase (multi tenant office or retail) at reasonable (e.g., 75% or less) LTV, you should have no troubles. One of my clients just rate-locked a multi-tenant medical office at 6.4% (9/1/07).
When will things return to normal? The fed is actively injecting liquidity ($62B since August 11th), and hinting at a rate reduction. After 9/11, it took about 4 months to return to normal. This too shall pass, probably towards the end of the year.
TIC investments rising in popularity
With income properties being pursued by more and more equity, the chances of landing a quality property become slimmer. In general, TICs offer these benefits:
Enable you to invest in large, institutional-grade properties
Diversify your holdings by allowing you to invest with as little as $100k.
Give you access to more extensive due diligence and complete investment disclosure
Give you cash flow paid monthly, with passive management
Allow you to replace your debt by assuming non-recourse debt, If you are in a 1031 exchange
The most common worry expressed by investors is liquidity. In a TIC, you will receive a separate deed and title for your percentage interest, which is easily marketable. I have been investigating TICs - please call me to learn more about these investments.
...and testimonials....
From a satisfied lease/sale client:
I want to express my gratitude for the prompt and professional job you executed in both leasing my building in Missoula and subsequently procuring the buyer for the same property. No small feat when you consider such property is a 70,000 sq. ft. multi-tenant industrial facility and several million dollars in value. You should also know that of the three real estate firms to whom I made the presentation of the building, with several brokers in attendance in each one of them, you were the only broker who not only responded to my presentation, but actually brought a leasing prospect.
As just reward, you obtained the listing for leasing the building, which eventually led to the sale of the same within the year or so. Soon after our first lease was completed, I learned about the ad you once put in the paper, stating that:
"You do not need to be a rocket scientist to make money in real estate, but it can certainly help"
[Not forgetting that as a matter of fact, you are a rocket scientist!] You proved the statement 100 % since your engineering skills force you to be detailed, accurate, and rubbish-free. You bring great value to the transaction, as buyer or seller alike can trust your research as material fact, allowing them to reach intelligent money making decisions based on reason and facts.
Making money is what commercial real estate is about; the rest is just star-gazing.
-- R.A., April 2006
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