During this time-out for commercial real estate investment and lending, market participants and watchers are busy trying to make sense of the extent of covid-19’s impact on the sector. Here are four observations from the past week on what we think you need to know:
1. Loan distribution is difficult: In a 4 May market update, Conduit Real Estate said some banks and debt funds are still holding loans issued before the lockdown due to an inability to sell them on to the bond or institutional debt markets. The London-based real estate finance advisor described “a fair amount of indigestion on investment banks’ books, particularly in the French market”. It added that some banks are contemplating enlarging their balance sheets for the time being to house these loans. The longer this indigestion in the syndication market persists, the less scope some lenders will have to underwrite large financings.
2. Up to a fifth could be wiped off values: Investment manager DWS, which is also a debt provider, said in a 5 May paper that it expects significant declines in rental income across the market in 2020, albeit less severe than those experienced during the global financial crisis. On average, it forecasts falls of 6 percent for prime offices, 5 percent for logistics and 4 percent for residential. Most starkly, it expects retail to fall by 12 percent. Lenders will grimace at DWS’s expectations for prime capital values: a 10-20 percent fall this year, with offices and retail towards the top end of the scale as they experience major price corrections. DWS added that the spread of lending terms between property types was likely to grow. Compared with offices and logistics, where the cost of borrowing has been stable, senior retail loan margins were already on the rise before the covid-19 outbreak and DWS predicts a further significant widening of the gap.
3. European CMBS remains liquid: Commercial mortgage-backed securities make up only a slither of overall European property financing and do not necessarily represent the state of the wider market. However, debt market specialists can take some solace in rating agency S&P’s report on 6 May that there has been no interest shortfall or draw on liquidity facilities across any of the CMBS transactions the firm rates in Europe. In the wake of the financial crisis, CMBS workouts were a painful process for many stakeholders. Market participants will be keen to avoid a repeat.
4. Volatility in spreads expected to be short-lived: In a 30 April report, asset manager AEW said recent projections suggest central banks’ coronavirus-related quantitative easing measures will result in continued low yields on government bonds. Meanwhile, real estate excess spreads to high-yield corporate bonds turned negative, as investors priced risk more carefully. However, AEW argued that they remained well below the levels seen during the financial crisis and the 2011 eurozone crisis, and were likely to normalise as central bank asset purchasing fully expands into high-yield bonds. On a relative basis, real estate is expected to continue to look like good value for investors.
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