The pressure that real estate borrowers face over a significant wall of maturities in the next three years will be further compounded by the banking sector’s dominance in the US real estate financing market.
Over the past decade, various groups – but banks in particular – expanded lending activities in commercial real estate while once-dominant CMBS lenders receded from the market, according to data provider MSCI. Indeed, banks originated more than 50 percent of the loans scheduled to mature in the US in 2026 and 2027, MSCI data shows.
Against this backdrop of loan maturities, “the largest lender group to the asset class – regional and local banks – is under intense scrutiny,” a group of analysts at Morgan Stanley wrote in an April report. “Potential changes to the regulatory regime may also weigh on availability and cost of bank credit.”
The rise of the insurance lender
As banks pull back from real estate lending, insurance companies are returning to the market after the denominator effect on their portfolios previously caused them to step away, according to multiple sources. Insurance companies typically provide loans with low loan-to-value ratios – the average was 61 percent in 2022, according to MSCI.
“We’re finding generally working with life insurance companies has been the best opportunity for us at this moment,” says David Boyle, co-founder and managing partner at NW1 Partners. The London-based manager has refinanced a portfolio of eight mixed-use assets anchored by retail in Washington, DC using life insurance capital, he tells PERE. The firm is also looking to use insurance capital to refinance a portfolio of industrial outdoor storage assets in the US.
NW1 was not ready to sell the portfolio after covid hampered the firm’s ability to execute its business plan. Concurrently, the portfolio’s original lenders – several local banks – were not in a position to refinance in the aftermath of the high-profile failures of Silicon Valley Bank and Signature Bank in March.
“They were pulling back even before, but now with what’s happened, there’s even more pressure and scrutiny on them to lend right now,” Boyle explains. “So most of them are just like, ‘We just want to get paid off. We don’t want to discuss a refinancing because we need to manage our book.’”
Cash in, not cash out
In a higher interest rate environment, many buildings are not producing enough income to support the same level of debt proceeds, says Lauren Hochfelder, co-chief executive officer of Morgan Stanley Real Estate Investing. As a result, many refinancings now require injections of capital. “We used to talk about cash-out refis,” she says. “Now it’s cash-in refis.”
One such manager putting cash into refinancings is Chicago-based Waterton. The firm has a “handful” of deals requiring it to “come out of pocket for,” says Rick Hurd, chief investment officer.
For the firm, where that makes the most sense is on property with floating-rate debt. Waterton would consider refinancing the existing debt with a five-year, fixed-rate loan, even if it required additional equity, as it saves about 200 basis points in debt service payments, Hurd says.
The manager has ready capital for those cash injections. “We have plenty of reserves in all our funds,” he adds. “It would be highly unlikely that we would ever need to bring in outside capital [to fill any gaps in financing].”
Another area of the market facing issues is construction projects, which borrowers typically look to refinance after completion. Project-level refinancing needs are leaving some property owners in a particularly precarious position. For some construction loans, borrowers’ leverage ratios have gone from 50-55 percent to 65-75 percent as a result of valuation declines, according to Dennis Lopez, chief executive at Vancouver-based investor QuadReal, which manages British Columbia Investment Management Corporation’s real estate program.
In the case of troubled projects, some lenders are requiring borrowers to bring down the leverage to prevent a default. But those sponsors typically do not have additional equity to bring to the table. Such borrowers are instead opting to secure higher-cost construction mezzanine loans, predominantly from non-bank lenders, to reduce their construction senior debt and avoid handing keys to the lender.
By holding onto the property, owners “can still create value and make money,” Lopez says. “It’s better than handing the keys back.”
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