Multifamily borrowers are slowly getting reacquainted with an old friend.
Conduit loan volumes are expected to climb this year, although the market’s comeback isn’t expected to reach boom-era levels, at least not in 2013. Constantine Scurtis, CEO of Miami-based conduit SL Capital, has seen a big jump in loan volume this year, noting that the flurry of activity is reasonable.
“Obviously, we’re not doing any business close to the levels we did pre-crisis,” he says. “But, we believe it’ll be about a $60 billion industry this year.” That’s a far cry from the $230 billion issued in 2007 but an improvement on last year’s $48 billion.
Scurtis says flexibility is one of the more attractive advantages of choosing a conduit. Fannie and Freddie tend to paint certain markets with a broad brush—or shy away in areas where the companies already have high concentrations of existing loans—whereas conduit lenders focus more on the strength of the individual deal itself.
“They have much more stringent criteria on areas,” Scurtis says of the government-sponsored enterprises (GSEs).
HFF executive managing director Gerard Sansosti and his team closed a $6 million CMBS loan in December by casting a wider net than the GSEs. A client was acquiring an older property in Youngstown, Ohio, and the HFF team found CMBS to be the best bargain.
“It was in a market where Freddie wouldn’t loan any more than 65 percent value,” Sansosti says. “Freddie Mac and Fannie Mae will go to Cleveland, Columbus, Dayton. But this was Youngstown, [and] they wouldn’t lend above 65 percent [there].”
So, the deal went to a conduit, a 10-year loan with a 30-year amortization and 75 percent leverage—exactly what the borrower was looking for.
Care and Finesse
As the CMBS pipeline continues to grow, conduit loans are being executed with more care and finesse than ever—mostly because of the Great Recession’s hangover looming in the minds of lenders.
“We’re a lot more cautious on the loans as far as asset quality,” Scurtis says. “There’s no pro forma.”
Banking on aggressive rent growth proved to be dangerous territory that caused much of the stigma surrounding bad CMBS deals in the past. But Richard Flohr, a managing director with Newark, N.J.–based Prudential Mortgage Capital Co., hasn’t seen a return to the rent-trending that characterized the boom years of the mid-2000s.
“I think we’ve become much smarter in that regard,” Flohr says. “We’re underwriting in-place capital. That discipline has returned to the market and is not likely to go away.”
The sting of the downturn is still fresh enough to keep lenders from falling victim to taking on bad deals. “We’ve learned from our mistakes,” Flohr says. “That doesn’t mean there aren’t natural things happening in the market. When credit markets have hiccups, it reverberates through all the markets.”
Michael May, head of multifamily lending for New York–based Cantor Commercial Real Estate, says he’s watching as more experienced finance professionals play the market with memories of the crash still lingering.
“The new CMBS world is very different,” says May, who is based in Cantor Commercial’s Bethesda, Md., office. “That’s one reason it’s been so slow to come back.”
However, some are concerned the industry’s memory will fade quickly, causing problems as conduits gain more momentum.
Jim McDevitt, president of Bethesda-based Berkeley Point Capital, says that while conduit lending is essential to a healthy market, many of the problems associated with it haven’t been corrected and will wreak havoc again. One of the greatest errors is that there wasn’t any “skin in the game” back then, and there isn’t now either, he says.
“In 2008 or 2007, loans fell out and peoples’ deals got crushed, and here we are back to that same loan,” McDevitt says. “The reality is there will be another shock to the system, and when there is, CMBS borrowers will have a problem.”
Returning to Health
Pricing on CMBS loans is still higher than the GSEs’, but the gap is starting to close. In the first quarter, investor demand increased to the point that interest rates on conduit loans were at least in the same ballpark as GSE pricing for the first time in a long time.
Overall, the competition between conduits, banks, life companies, and the GSEs will keep the market healthy. “Having that many options can only be good,” Flohr says. “Three or four years ago, you might have only had one option. More options create competition, which creates better pricing.”
Vic Clark, managing director at New York–based Centerline Capital Group, says the CMBS industry’s cautious revival is attracting more, and smarter, B-piece buyers.
“Effectively, the B buyers are involved, hands on, in great detail, in the underwriting and acceptance of each and every loan that goes into a pool,” Clark says. “They know what’s going in. In the boom days, they didn’t really know.”