Monday, January 18, 2010

Why loan money?

Much as I rail on the bankers sometimes for not loaning money for commercial real estate projects, perhaps I cannot blame them. Why?

One reason is certainty. Loans were packaged as safe and rated investments by the rating agencies. But now we see that insane numbers of deals are under water, meaning more pain is on the way. We are talking 36% of loans maturing this year, according to reports. There is utterly no certainty in that type of investment, thus making it very risky. And properties going back to special servicers can be ugly, as the linked post suggests. This will present challenges to us on the legal side and require major league due diligence on these properties, since I don't think you can expect no reps and warranties from the servicer in a distressed sale.

Meanwhile, "Banks are making money because they're borrowing at ridiculously low rates from the public and central banks and then investing in higher-yielding government securities." Borrow our money at 0.5% and invest it in government bonds "yielding anywhere from 3.75 percent to 4.75 percent in the U.S. and Europe." So, unless the bond market crashes, you have a very safe investment with a good return, and, oh gee, huge bonuses.

Because of LTVs and market conditions, too-high rates on CRE mean deals cannot get done. But why lend money at even 6% on a spec when you can borrow our money for next to zero and invest it at many times that cost of return? You see where I am going.

So...the next thing the market has to figure out is how to deal with this problem. Raise rates? Stop the arb plays? Make CRE investing more attractive through JVs? Start all over again or find a new product? It'll be interesting to see how the market sorts itself all out.


Timothy R. Hughes said...

A lot of these deals surely still have hair on them. I am just happy that here in Northern Virginia there are such good fundamentals that some things are still cooking along, albeit nothing like in 2006 or so.

PS - is there any way to just open URL id on comments here? I like for the ID to link back to our blog at ... that does not really work with my gmail accont or the id tags as we are on LexBlog, not wordpress ....

David said...

Yes, you are somewhere where the market is great and will be for the foreseeable future. In Chicago, not so much, although the signs are there...just need money.

I have the blog supposedly set up for Open ID commenting. I changed from free for all because of spam. Please let me know if you are having problems and I guess I will tolerate the spam to allow for as much commenting as possible. (Perhaps another reason to move to WordPress....)

Victor said...

Hiya, hope the recent downfall may be the reason of such unthoughtful lending. Anyway interesting blog.

Timothy R. Hughes said...

No sweat, understand entirely David - it just points to the placeholder blog that I set up a couple years ago at my old firm and did nothing with!

Thanks for the link. I am happy to see you actively posting again, I was a lurker a while back and now that I am active, I look forward to the conversation!