John B. Levy & Co. Weblog

ANDREW LITTLE GUEST COLUMNIST

Richmond Times-Dispatch
Published: December 14, 2009

Commercial real estate is starving for credit Smart money continues to pile up on the sidelines, anxious to take advantage of bargain-basement pricing for broken commercial real estate loans.

Government policy, however, seems geared toward preventing breaks by letting bad loans go unrecognized on banks’ books in hopes that they will become good loans.

And despite Treasury extending the Troubled Asset Relief Program (TARP) for a year, the program is now focused on other areas of the economy.

The gyrations have credit-starved commercial real estate participants screaming, “What’s going on!?”

Markets are no longer in a free-fall, so optimism can be seen in some quarters. But 2009 is ending with as many or more questions as when it started.

Credit to commercial real estate is still virtually nonexistent, and there is no clear path defining from where more will come.

Bank examiners have guidelines to follow when they review banks’ books, but none of the guidelines forces banks to ultimately resolve problem loans.

Through a combination of low interest rates and forbearance on problem loans, policy seems designed to allow banks to continue earning money so that they can write down problem loans over many quarters, and, perhaps, years.

The alternative, the argument goes, would be to put many of them out of business.

This policy may prolong life for many banks and their borrowers, but the larger impact is that potential problem areas of the economy, such as commercial real estate, are starving for credit.

The latest Federal Reserve data regarding commercial banks in the United States show total assets (of all commercial banks in the U.S.) of approximately $11.8 trillion at the end of October 2009 compared with $11.96 trillion at the end of October 2008 — a shrinking of $160 billion in one year.

Commercial real estate loans accounted for $60 billion of the shrinkage during that time span, while consumer loans represented $6 billion.

The original intent of TARP money was to allow banks to continue lending, but the data show outstanding loans have decreased.

This has put most commercial real estate players on the sidelines. Credit for deals is as tight now as it was earlier in the year.

TALF (Term Asset-Backed Securities Loan Facility), another major government program intended to bring back the securitization market, has been ineffective.

The rebirth of the CMBS (commercial mortgage-backed securities) market is starting, but TALF has little to do with it.

JP Morgan’s recent underwriting of the Inland Western deal is a template for future deals.

It provided a 75 percent LTV (loan-to-value) loan versus the 50 percent offerings from Fortress and Developers Diversified Realty, which was the only new offering that was TALF eligible.

The problem for the majority of commercial real estate borrowers is that they are not the size of Inland Western, and JP Morgan and the other banks have little appetite for small transactions or those in secondary or tertiary markets.

As large loan portfolios begin to make their way through the securitization process, many smaller borrowers wonder when the money will trickle down to them.

In the meantime, according to the John B. Levy & Company National Mortgage Survey, rates for 5-and 10-year fixed-rate mortgages range from 5.75 percent to 7 percent for low leverage loans secured by real estate with good tenants and operated by solid borrowers.

John B. Levy & Company Warns Commercial Real Estate Investors Against Making Decisions in Today’s Market Based on the Recession of the Early 1990s

(Richmond, VA – November 25, 2009) – As embattled industries seek ways to regain their equilibrium in today’s struggling economy, more than a few investors in the commercial real estate sector have turned their attention to the recession of the early 1990s, thinking that today’s market is a repeat of what happened nearly two decades ago.  According to “Fighting the Last War,” the latest podcast produced by John B. Levy & Company (available online at www.jblevyco.com), the market of 2009 is dramatically different from the foreclose-and-dispose days of 1990, 1991, and 1992.  Because of this, commercial real estate investors who make decisions today based on the last war are pursuing a dangerous strategy.

“A lot of people in the commercial real estate industry believe we’re seeing a repetition of the early ‘90s,” says John Levy, founder of John B. Levy & Company.  “They’re waiting for the proverbial blood in the streets . . . a return to the days when the RTC bought, foreclosed on, and sold assets by the pound.  I hate to say it, but that’s not where we are today.”

For Levy, the difference between then and now is dramatic.  While the collapse of one sector of the banking system (the savings and loan industry) in the early 1990s left investors in a state of shock and awe, today’s recession has been marked by the near meltdown of the entire banking system.  Over the past couple years, investors have seen AIG, a triple-A rated company, on the brink of bankruptcy; they watched the rescue of Fannie Mae and Freddie Mac; they witnessed the fall of Lehman Brothers and Bear Stearns.  Today’s recession is global and severe, and it has touched not only commercial real estate, but investments and companies across the board. 

“Some people point to real estate and say ‘that’s what caused today’s recession,’” says Levy, “but that’s not completely true.  Single family real estate?  Yes, but not commercial.  We’re somewhat like a snake going through a dip.  The economy may be heading up, but commercial real estate is at the tail of this recession, and it’s quite possible for it to still be going down before heading up.”

With leverage down and promising to stay that way indefinitely, the market clearly needs more equity. But where that comes from is a crucial concern.  Levy thinks institutions will eventually provide equity once they recognize that the pricing they are now getting has reached the bottom or is trending up.  In the meantime, equity will likely come from high net worth individuals and family offices, even endowments, because these sources have a longer-term view of real estate.

The economy in general and commercial real estate in particular will also reflect the impact of a new policy statement from the FDIC.  Whether that impact is positive or negative depends on one’s perspective.  On the positive side, banks will not have to establish extreme reserves for bad loans.  But on the negative side, investors will not see real estate priced as it was in the RTC days of the early 1990s because there is no pressure to liquidate assets.

“With no pressure to liquidate assets, it might take a long time to get back to equilibrium pricing,” says Levy.  “Is this good news?  Probably, because a collapse in real estate equity values won’t benefit anyone.  But if you’re waiting for blood-in-the-street pricing, it could be bad news.”

Firm Background

John B. Levy & Company, Inc. is a real estate investment-banking firm headquartered in Richmond, Virginia.  Since John Levy founded the company in 1995, the firm has structured over $3.5 billion in financing for developers and owners of commercial and multi-family projects nationwide, often investing its own proprietary funds into transactions with its clients. 

Mr. Levy is an expert on commercial real estate financing and the effects of interest rates on commercial real estate markets.  He is the originator and author of the Barron’s/John B. Levy & Company National Mortgage Survey, which Barron’s published for 23 years, and co-creator of The Giliberto-Levy Commercial Mortgage Performance Index (sm), the first and pre-eminent index to measure and analyze the performance of investments in the commercial mortgage industry.  Additionally, he is a member of the Board of Directors of Anthracite Capital Inc. (NYSE: AHR), a New York Stock Exchange REIT managed by BlackRock, Inc. and a former director of Value Property Trust. 

A seasoned speaker, Mr. Levy has presented nationwide to major real estate associations and key industry groups, including the Mortgage Bankers Association and the Urban Land Institute.  He has also appeared on Bloomberg and CNBC.  Most recently, Mr. Levy appeared as a guest commentator on FoxBusiness.com and FoxNews.com.

For more information about John B. Levy & Company, please visit the firm’s website at www.jblevyco.com or call Andrew Little at 804-644-2000, extension 260.  You can also follow us on Twitter at www.twitter.com/jblevyco and become a fan on Facebook.