Challenges Facing the Commercial Real Estate Industry

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  • View profile for Shlomo Chopp

    Debt Restructuring and Structured Finance Specialist, with experience spanning Distressed Real Estate, CMBS, and Special Situations; Investor across Property, Debt, and Securities; Multi-Patent Holder.

    15,080 followers

    Real estate was right. Almost dead-right. But, what’s next? The traditional shopping center and mall model is broken. This change didn’t just happen. It was pushed by Amazonian investments and glittery distractions. Real estate was caught flat-footed while retailers downsized, reallocated resources, or just went out of business. Nothing we can do will make giving away convenience be less in-demand, but free supply cannot go on forever. Amazon subsidizes “retail” with advertising and AWS, but volatility has seen them (and even Shopify) making pandemic era bets that overshot true demand. The future may not seem clear in todays rapidly changing environment, but to be successful over the long term, landlords must provide more than four walls. Multifamily has been doing this for years. In the industrial arena, Prologis recently launched “Prologis Essentials” which assists tenants with operations, energy and sustainability, mobility and workforce solutions. And WeWork, despite execution and a flawed model, taught us that you can attract higher paying tenants with a turnkey suite of services. Since 2003, I’ve been knee-deep in the distressed real estate and innovation spaces. The latter plays a major role in bringing about the former so I’ve been watching closely. Retail and now office has proven that landlords relying on tenants to spearhead change, risk being excluded. Stagnation brought about by comfort and refinance-chasing is a death-knell. What follows are downsizings, rent reductions and high leasing costs. The downward cycle starts with high valuations and ends in obsolescence and foreclosure. The crisis around retail has not passed. Channel integrations remain unsolved and economic headwinds are coming. The world is up for grabs and the next innovation may be that final nail. Landlords can’t just try to equip tenants to compete, they themselves must dominate online retail with decisive action. Properties are in closer proximity to the customer with less visual clutter. While you may not be able to finance a lease with a hot online brand that might not make it, you can give them a turnkey solution at your property without significant investment. This builds your asset’s long-term value and is a case study for creditworthy tenants that your proprietary infrastructure works. As managing partner of Terra Strategies, I am making investments into formerly premier retail assets at distressed prices with a restructured capital stack. As founder of the triple-patented retailOS™, together with Ryan Wolfe, our strategies drive rents while diversifying uses, so shopping centers dominate the future in both the physical and online. If you are interested in capitalizing on this future, we’d like to talk with you.

  • View profile for Darren Powderly

    Private Wealth | Commercial Real Estate | Investment Management | Capital Raising | High-Net-Worth Investors | FinTech | Strategic Advisor | Sales Leader | Mentor | Founder

    9,207 followers

    Top 10 Takeaways from ULI Los Angeles 1. Business relationships mature into real friendships over the years if you keep showing up at Urban Land Institute, participating in a Council, and volunteering to help. This year, I connected more deeply with my Council members and CRE operating partners. 2. Cocktails flowed, but the mood was sober. Everyone is in problem-solving mode. Real estate is cyclical, but this interest rate-induced downturn is causing value destruction across all asset classes. Values are down 20-50% from peak in late 2021. ULI called the decrease in property values the "Great Reset." 3. Asset management is the highest priority. With rent growth slowing or declining and expenses rising, owners must concentrate on operational efficiencies to boost net operating income. 4. Transaction volume is down 70-80% since last year. Industry analysts forecast a gradual uptick in transactions in 2024 as lenders force sales and bid/ask spread narrows. Sellers who can hold on won't sell until prices climb again. 5. Owners with floating rate debt or loan expirations are in a tough spot. Lenders require borrowers to deposit cash to refinance at a much higher rate. That's precious capital that the owner may not have or be able to raise today. Mortgage Rates have doubled in the past two years. Properties commonly fail the debt-service coverage ratio (DSCR) test, so loan workouts are increasing. 6. Big banks have mostly paused new lending. The dearth of transactions means the banks are not being paid off, so they don't have the money to lend. Private lenders are filling the void at significantly higher rates, often as high as 12-14%. Investors are increasingly interested in private credit. 7. Construction completions on new apartment buildings will supply many new units in the coming year. Rent growth in certain markets may slow for a few years until the new supply is absorbed; a short-term trend since permit issuance for new building development has dropped significantly. Development is tough to "pencil" today given higher borrowing and building costs. 8. Private equity real estate firms have largely shifted from investing in common equity to preferred equity or mezzanine debt. Private lenders can generate equity-like returns in today's financing market. Overall, investors have lowered their return expectations. 9. Despite a reported record in "dry powder" (money raised but not invested yet), institutional equity investors patiently wait to invest that money. In the meantime, private equity funds and investment platforms like CrowdStreet are appealing options for owners who need to recapitalize or acquire properties. 10. Affordable housing is gaining popularity across apartments, build-to-rent communities, manufactured housing, and mobile home parks. With government support, residential real estate firms see an opportunity to provide affordable housing solutions while generating attractive returns for investors. 

  • View profile for Casey Calhoun

    CRE Tech Consulting

    8,824 followers

    For the non-real estate folks, here's the state of commercial real estate right now: 1. Interest rates have frozen the market. For how hyper-local real estate is, it lives and dies on interest rates / financing terms. 2. "Survive until 2025" is the tagline echoing the '95 motto comparing the market to the 1980's and 1990's (inflation > interest rates > slow market) 3. Lenders are pretending and extending or doing small workouts not calling loans due which buys the market time hoping that inflation comes down and interest rates come down. 4. Regional banks are overexposed to office buildings which are either not trading or trading at a fraction of pre-covid. Best case: We teleport to 2019. Worst case: Buyers buy it for what the land is worth and many regional banks go out of business. 5. Not even the optimistic ones assume we're going to be in a great spot months from now. I'd imagine this sustained pain causes some consolidation in the market place. It'd be hard to lose money in real estate over the last 15 years. That might not be the case for the next 5 years. This is solely based on my observations and conversations. Any new information can change these points, but this is my current opinion of where the market stands. Disagreeing (or affirming) comments and conversations always welcome. #realestate #commercialrealestate #interestrates

  • View profile for Cristian Arenas

    Senior Portfolio Management Analyst at FEG | AI Engineer & Systems Architect

    4,404 followers

    US Commercial Real Estate Struggles Impacting Lenders - The US commercial real estate market, deeply affected by the Covid-19 pandemic, is starting to manifest significant financial strains on lenders. New York Community Bancorp and Aozora Bank Ltd. recently highlighted this growing concern with their financial setbacks. - New York Community Bancorp's decision to cut its dividend and increase reserves led to a record 38% drop in its stock, signaling deepening troubles in the sector. Similarly, Tokyo-based Aozora Bank's announcement of a loss linked to US commercial property investments caused its shares to plunge more than 20%. - Deutsche Bank AG in Europe also felt the impact, quadrupling its US real estate loss provisions to €123 million. These developments reflect widespread apprehension about declining commercial property values and the potential for loan defaults. - The shift to remote work and rising interest rates are exacerbating the situation, making it costly for borrowers to refinance. Notably, billionaire Barry Sternlicht warned of over $1 trillion in losses in the office market. - Banks are bracing for possible defaults as landlords struggle with loan repayments. An estimated $560 billion in commercial real estate maturities is due by the end of 2025, posing significant risks, especially to regional banks. - Commercial real estate loans comprise a larger portion of assets for small banks (28.7%) compared to larger lenders (6.5%), making them more vulnerable. Regulators are increasing scrutiny of these exposures following recent regional banking crises. - The market for commercial real estate has been in limbo since the pandemic, with transactions plummeting due to valuation uncertainties. However, looming debt maturities and potential Federal Reserve rate cuts could trigger more deals, clarifying the extent of value declines. - Recent significant sales, such as the Aon Center in Los Angeles selling for 45% less than its 2014 price, suggest substantial value drops in the sector. - Regional banks have been slow to adjust asset valuations to market rates, raising concerns about the real value of these assets on their balance sheets. - Multifamily buildings, particularly those subject to rent regulations, are another area of concern. New York Community Bancorp reported that 8.3% of its apartment loans were at elevated default risk, exacerbated by changes in rent laws. - Banks face increasing pressure to reduce their commercial real estate exposure. Some, like Canadian Imperial Bank of Commerce, have started marketing loans on distressed US properties. - The situation indicates that the full impact of commercial real estate challenges on banks, particularly in terms of loan defaults, may become more evident in 2024 and 2025. #commercialrealestate #bankingsector #defaults #interestrates #realestatemarket #banks #propertyvalues #marketanalysis

  • View profile for Matthew Spratley

    Certified General Appraiser | Commercial Real Estate Expert

    7,059 followers

    Let’s talk about the current economic climate and it’s effect on Commercial Real Estate: The market gets excited whenever there’s a hint that interest rates might drop, which makes people spend more and drives up prices. This can create a problem because then the people in charge might need to keep interest rates higher for longer to prevent prices from rising too much. It’s like a seesaw: when one side goes down, the other goes up. This can lead to problems like a weaker economy and trouble for banks, making it harder for people to borrow money. What risks does the commercial real estate sector face in an environment of prolonged higher interest rates? Firstly, higher borrowing costs can increase the financial burden on property owners and developers, potentially leading to reduced investment in new projects and slower growth in the sector. Secondly, rising interest rates may dampen demand for commercial properties as businesses face higher financing costs for expansion or relocation, resulting in decreased occupancy rates and lower rental income. Additionally, existing commercial real estate loans with variable interest rates may become more expensive to service, increasing the risk of default for borrowers and potentially leading to higher rates of loan delinquency and foreclosure. Overall, prolonged higher interest rates can weaken the profitability and stability of the commercial real estate market, posing challenges for investors, developers, and lenders alike.

  • View profile for Solita Marcelli
    Solita Marcelli Solita Marcelli is an Influencer

    Global Head of Investment Management, UBS Global Wealth Management

    136,629 followers

    Challenges in commercial real estate (CRE) have come into focus once again with regional banks coming under pressure. In our view, it is possible that delinquencies continue to rise, especially in challenged sectors like #office, which suffers from higher rates, lower demand, and hybrid work. Overall, #CRE may pose some manageable earnings risk in the coming years. But at the same time, we do not expect a meaningful deterioration of #bank capital, a systemic crisis, or contagion to other sectors of commercial lending. We point to five main mitigating factors: 1. US bank office exposure appears manageable, representing ~2% of average total loans at large banks and ~4% small and mid-sized banks. 2. CRE has been a key area of focus for bank management teams for the past couple of years. In early 2023, banks started disclosing additional detail on CRE office exposure. 3. Bank regulators have been focused on banks’ CRE exposure in recent years. The annual large-bank stress tests include significant write-downs of 40% on CRE exposure in the severely adverse scenario. 4. US banks have been tightening underwriting standards related to CRE for more than a year. 5. CRE has a long-dated cycle, and losses would likely spread out over several years. Read the full report from Brad Ball and Jonathan Woloshin, CFA.

  • View profile for Bruce Richards
    Bruce Richards Bruce Richards is an Influencer

    CEO & Chairman at Marathon Asset Management

    40,740 followers

    Commercial Real Estate valuations have taken their sharpest decline since 1990-91, driven by an increase in interest rates that has pushed Cap Rates significantly higher. For instance, when the cap rate for a CRE property rises from 4% to 6%, the valuation for the property declines by 33%, holding all other variables constant. It might not be in the Cap Rate data yet as the market is in a period of price discovery period, but the CRE community is well aware cap rates have gapped higher over the last 18 months. Reason #1 for Cap Rate expansion: Jay Powell and the Federal Reserve began tightening 18 months ago, and with the sharpest increase in Fed Funds in 40+ years, SOFR has increased by +525 bps, while the 10-year UST rate increased by 300+ bps from its COVID lows. CRE property owners are praying for the Fed to cut rates, hoping to bring down financing costs, and to ease financial conditions. Unfortunately, ‘Higher for Longer’ is the prevailing assumption that investors should work with when modeling their base case. Reason #2 for Cap Rate expansion: $1 Trillion is the size of the Debt Maturity Wall that is looming over the CRE marketplace in the next two years, and since banks are poorly positioned to extend CRE credit, a further leg down in CRE valuations is my most likely outlook. While there is uncertainty and pain for some real estate property owners in the road ahead, there is also outsized opportunities for those who are in strong position to capitalize from this dislocation. // Daily Insights on Markets follow on twitter @Bruce_Markets //

  • View profile for Spencer T. Hakimian
    Spencer T. Hakimian Spencer T. Hakimian is an Influencer

    Founder at Tolou Capital Management, L.P.

    35,749 followers

    Nearly $1T of commercial real estate loans mature in 2024, by far the largest amount of any upcoming year. With a large percentage of these loans underwater, creditors and debtors alike will face difficult choices in 2024. Should creditors choose to foreclose on assets, heavy downward price pressure would ensue. On the other hand, if creditors choose to modify existing loans and extend their duration out, a default cycle can likely be avoided, but would require highly capital buffers from banks as well as a writedown of the loan values to something closer to market value. There are no ideal choices here, and overall economic growth will likely be slower in either outcome - default scenario or extension scenario.

  • View profile for Nomi Prins

    Founder Prinsights Global, PhD, Former Wall Street Exec, Entrepreneur, Keynote Speaker, Author, Geo-Political Economist, Financial Expert

    9,620 followers

    https://lnkd.in/eHBrmtGm Last week, Federal Reserve Chairman Jerome Powell acknowledged that commercial real estate loan problems could cause "manageable" problems for "regional banks" for possibly "years." That reminds me of Former Fed Chairman, Ben Bernanke, saying the subprime loan problem was 'contained' in May 2007. Here's some context. The total size of the subprime loan market was $1.3 trillion at the time. Today's commercial real estate loan market exceeds $2.8 trillion. Last quarter's FDIC report notes the banking industry is showing "resilience" since the Silvergate, Silicon Valley, and First Republic Bank blow-ups. https://lnkd.in/e_vd33Wk Then there's the fine print. One chart shows that the industry's provision expense hit $24.7 billion in Q4 2023. That's the highest level since Q4 2020 aside from the two pandemic quarters in 2020. The FDIC attributes this to "higher credit card balances and charge-offs, greater risk in office properties, and increasing delinquency levels across loan portfolios." The problem is credit risk is growing on all those fronts. The US average office vacancy rate is 20%. Nearly 200 million square feet of office leases are expiring in 2024-2025. There are two possible outcomes: 1) At least 20% won't be renewed. 2) The rest will be renewed at lower prices. In addition, there are $1.4 trillion of CRE's maturing or in need of restructuring between now and 2027, with $270 billion this year and $560 billion by 2025. None of this bodes well for CRE loans. And that does not bode well for the regional or community banks holding 67% of them. We saw this play out in the 2007-2008 subprime debacle. The major disconnect between regulators and reality was the belief that these loans were sufficiently diversified to withstand system wide failure, and that the system wasn't leveraging them to the hilt. That was not the case then. It's not the case now.

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