Pexels.com

What’s Driving High-Leverage Buyers to the Mezzanine Market?

Carrie Rossenfeld Finance & Capital Markets

Compressed cap rates and rising prices in major metros have impacted leverage in the CMBS market, Patrick Ward, founder and president of MetroGroup Realty Finance, tells SoCal Real Estate. The Newport Beach, California–based firm is a private mortgage-banking company. We spoke with Ward about his outlook for capital markets, the impact of rising interest rates on the industry, and the role of technology in the lending process.

Patrick Ward | Courtesy a representative of MetroGroup Realty Finance

SoCal Real Estate: What is your overall outlook of capital markets right now?
Ward:
Our outlook remains positive. There are currently ample amounts of capital sources available to finance commercial properties throughout the U.S., whether from life-insurance companies, banks, CMBS, credit unions, structured lenders, or debt funds. This is something that we anticipate will remain true for the foreseeable future.

In fact, with the recent rollback in regulations initially imposed by Dodd Frank, we expect that we may see an increase in the availability of capital from smaller and regional banks. The increased operating costs, which were a result of adhering to and reporting on these new regulations, along with increased capital requirements, affected the cost of funds of the small and regional banks. Loosening these regulations should allow the smaller banks to maintain their real estate allocations more profitably in the future.

Additionally, we are seeing an increase in allocations in the mezzanine market. This is a result of compressed cap rates and rising prices in major metros that have impacted leverage in the CMBS market. Traditionally, CMBS underwriting and sizing was still able to achieve maximum leverage at 75 percent loan-to-value. Today in the CMBS market, we are seeing maximum leverage of 65 percent to 67 percent, which is driving more high-leverage buyers to the mezzanine market. Some CMBS lenders are even aligning themselves with mezzanine lenders to provide a transparent one-stop option.

How are the rising interest rates affecting the capital-markets environment?
Interest rates have been at historic lows for the last several years. Recently, we’ve begun to see these rates increase.

That said, on average, interest rates are only up by approximately 75 basis points, which has not had a very significant impact on financing real estate or the availability of capital for real estate. The current 10-year Treasury bill has been recently hovering around 2.9 percent. This is still relatively low as for the last several years it has averaged around 2.2 percent.

Overall, despite incremental increases, interest rates still remain at an attractive rate that will not impact the sheer velocity of transactions or lender allocations in the near future.

What role is technology playing in the lending process, and how do you think this role will change in the future?
Advances in technology have been a major disruptor across all industries, including the lending process.
With more than 30 years in the industry, we’ve seen the lending process become more streamlined, as well as an increase in the immediate access to information.

Lenders today are utilizing tools that provide instant access to data regarding absorption and occupancy rates, demographics, tenant research, and comparable sales, among many others. Lenders are also now using online portals that track the transaction process more effectively and provide real-time updates.

What else should our readers know about capital markets?
When it comes to financing, there is a variety of different options and ways of structuring a transaction. This is why it is important to work with experienced mortgage bankers who understand a sponsor’s strategy and investment objectives.

For example, when it comes to non-recourse and recourse loans, there are specific lenders who mostly focus on non-recourse, such as life- insurance companies and others including credit unions that are typically recourse-only lenders.

That said, there is a group of lenders in the middle that focus on both and will underwrite transactions with both with non-recourse or recourse options. Pricing and leverage determine the differences. Knowledgeable mortgage bankers not only procure these options but can assist their clients in analyzing the risk/reward the various options present.