The biggest short- and long-term challenges facing commercial real estate (CRE) relate to the large amount of debt maturing between now and 2015, said an executive with Deloitte.
The firm issued a report detailing what it considers to be the top five issues facing CRE this year. Bob O'Brien, vice chairman and real estate sector leader, said 2011 has been positive for CRE to this point, as the uncertainty affecting the economy has had less of an impact on the business.
There is a budding CRE recovery, but macroeconomic issues are threatening to hold it back. Investors should have strategies based on more realistic expectations of a modest and gradual return to growth.
Regional and local banks facing their own liquidity challenges hold many of the CRE loans scheduled to mature in the next few years. "Prospects for a broad commercial real estate market recovery stand to be enhanced when lenders resume loan originations for 'non-trophy' assets and refinancing options increase to stabilize debt maturities," Deloitte said.
It predicted that lenders will gradually end their "amend and extend" policies and permanently resolve troubled mortgages. This will lead to an increase in distressed transactions and real estate owned.
Real estate investment trusts should "dominate burgeoning real estate transactions in 2011, albeit with increased competition from other investors," Deloitte predicted.
Another trend in the CRE market is the overhang that might make the sector a buyers' market.
The large amount of maturing mortgage debt is an opportunity for institutional investors to acquire at good prices CRE from sellers who are overleveraged, a report from a unit of BNY Mellon Asset Management declared.
"The ability to acquire these properties at attractive costs is possible because of the significant amount of commercial real estate debt that is scheduled to mature over the next four years," said David Blum, managing director, portfolio management, at Urdang Capital Management and a co-author of the report. "Many of these properties have experienced deferred capital expenditures, which will require owners to invest additional equity or dispose of their assets."
Another reason why owners might have to come up with additional equity when they go to refinance is because of the drop in values from the market peak.
"This gives new investors the opportunity to have a lower cost basis than those who bought similar properties a few years ago, providing them with the ability to offer lower rental rates than comparable properties with greater debt burdens."
Furthermore, added the other co-author, David Rabin, managing director, private real estate, because CMBS delinquencies are at an all-time high, there will be "increasing opportunities" to purchase properties at an attractive price.
Aside from delinquencies presenting opportunities, market sources said that the market instability is good for the CRE market.
A CRE investment advisor in Orlando calls Standard & Poor's downgrade of the U.S. sovereign credit rating "good news for commercial real estate" both nationally and locally.
Sean Glickman, vice president of the Investment Advisory Group for Coldwell Banker Commercial NRT, said even after the downgrade, investors still flocked to U.S. government backed debt.
The 10-year Treasury benchmark fell as low as 2.23% after the downgrade and resultant stock market turmoil and has fallen further since. “If the market instability continues and Treasuries remain so low, cash flow from long-term leases on quality retail assets will become more attractive and investment activity will only increase. This will only multiply with foreign investors taking advantage of the weakness of the U.S. dollar,” Glickman said.
In the Orlando area, multi-tenant properties are recovering. “More deals were executed over the past 12 months than in any year-long period since the recession started,” he said. Best-in-class grocery-anchored shopping centers trade at cap rates in the mid-7% range. Cap rates start at 8.5% for lesser-quality properties.
Interest in local retail properties "remains keen," he continued, and should increase as investors set their sights on secondary markets.
“Good news is out there; but sometimes it's hard to hear it," Glickman said.