COVID-19 has influenced nearly all facets of life, and its impact on the economy has been massive yet highly variable. The demand in certain CRE sectors, like office, retail, and hospitality, has taken severe hits compared to previous years due to the virus and radical changes in behavior. But other property types have boomed or remained relatively unscathed.
The overarching theme for many aspects of the economy and CRE is uncertainty. And this is not a word that financial institutions like very much.
Despite historically low interest rates, lenders—and smaller banks, in particular—have tightened their standards for issuing many loans. Caution over what the future holds combined with lower returns on their money mean there can be a significant risk for lenders without the correlating reward.
Here’s a look at what’s going on with commercial real estate lenders, along with information on how investors can still get a loan.
One day in the near future, the government may announce the effective “end” of the COVID-19 pandemic in the United States—or, more likely, the end of pandemic-related restrictions. But we don’t know exactly what will happen once things return to “normal,” especially if some form of the virus sticks around at a lower incidence.
Will most employees return to the office, and how many days per week?
How much do consumers long for the days of in-person shopping?
Is there an immediate appetite for travel to crowded tourist locations?
The answers to those questions will soon present themselves, and many analysts project a massive increase in pent-up consumer demand. But the extent of the boom and which hard-hit sectors will recover fastest is uncertain.
For example, the hotel industry has suffered one of the most severe downturns because far fewer people travel for work or recreation. It stands to reason that once things are completely open across the country, work conferences will resume, and vacationers will return to South Florida.
But what if they don’t travel at pre-pandemic levels? How will worldwide approaches to the virus impact the influx of international travel in South Florida?
Hospitality is just one example, of course. The essential point is that we just don’t know exactly how things will play out, and neither do lenders.
Financial institutions are cautiously evaluating borrowers and loan criteria. But despite their hesitancy, it’s worth noting that lenders of all sizes are still making money available to CRE investors. They’re just using a more conservative approach.
First, small lenders, in particular, are becoming increasingly reliant on borrowers with whom they have an existing relationship. If you’ve already borrowed from an institution and repaid your loan on time, there’s a much better chance they’ll let you access funds for additional commercial real estate projects.
Lenders are also carefully scrutinizing the type of property that secures a loan and the outlook for the investment’s success. Office space, retail, and hospitality, for example, may represent more risk and have higher barriers to obtaining capital. In contrast, warehouses and fulfillment centers are booming, making defaults less likely on those property classes.
There’s also a chance you’ll have to put up more of your own money on a commercial real estate deal. For example, Valley National Bank is seeking an additional 5-10% equity from CRE borrowers before granting a loan. Many lenders want you to have more skin in the game because they feel you’ll make less risky decisions under those circumstances.
You should also be prepared for a lender to do its homework before granting your loan. Banks are conducting more thorough market research than ever before and doing tenant due diligence to ensure the businesses to which you’ll be renting have good enough financials to keep up with payments. They also want to see longer-term leases than many of the short contracts that became common in 2020.
The bottom line is that while money is indeed available at very low interest rates, lenders aren’t exactly rubber-stamping loans, either. And the key lesson is something that smart CRE investors live by in any economy and lending environment: If you’ve done your research and the analysis projects that a commercial real estate plan has a sound financial return, there is money available.
With the distribution of vaccines, there’s a lot of hope right now. However, lenders will likely stay diligent in the short term because industries will recover at different speeds, and some businesses might not bounce back at all.
Many financial institutions will wait and see how office space, for example, rebounds. Some form of the remote work trend is durable, which seems to be leading to revised demands of office space, including less square footage overall. If this holds true, it could influence how easy it is to get a loan for a massive office building in a downtown urban center.
Again, that is just an example. The crucial lesson is due diligence, due diligence, and more due diligence. Realistically assess opportunities and projects and show lenders that the numbers likely work.
Morris Southeast Group is available to answer any questions you might have on the post-pandemic recovery of the CRE industry. Give us a call at 954.474.1776 today to learn more. Ken Morris is also available directly at 954.240.4400 or email@example.com.