Q&A with Jordan Roeschlaub, Executive Managing Director at NGKF Capital Markets
The young finance executive discusses the challenges in commercial property debt and paints a picture of how the market will look in upcoming years.
By Alexandra Pacurar
New York—Finance in commercial real estate is at an interesting point in its evolution, with low interest rates, but high competition in commercial property debt, and a strong market for alternative sources of debt. However, there seems to be no perceptible reason for concern. Jordan Roeschlaub, executive managing director at Newmark Grubb Knight Frank (NGKF) Capital Markets spoke to Multi-Housing News and Commercial Property Executive about the trends in the industry and outlined a forecast for the next couple of years. Roeschlaub was named among the top industry professionals in his generation and has been with the New York-based commercial real estate advisory firm for two years.
MHN/CPE: How would you describe the main trends in the debt market today?
Jordan Roeschlaub: I would say for a large segment of the industry, it’s certainly a “Tale of Two Cites”. On one end of the spectrum, the debt capital is flowing for cash flowing properties in solid markets with strong sponsorship. Additionally, you can find debt for construction projects where you are delivering a quality project into a well-balanced market.
On the other end, many projects are unable to attract debt capital at their current level and cannot refinance their current loan. Contributing to this are either weaknesses in the quality of credit or notable event risk that requires significant capital. These transactions are going to require additional capital to either bridge the gap that the new senior loan creates or to manage around the capital required to retenant the space or to make improvements which allow the project to remain competitive in the market. I see office and retail projects having the greatest need.
In the middle market, I feel it’s business as usual with banks, CMBS, life companies proving capital at all levels. Let’s also not forget the smaller regional and community banks. They remain very active.
MHN/CPE: Which would you say are the main challenges in commercial real estate finance today?
JR: Maturing CMBS loans over the next 18 months will certainly be something that can be a challenge as the “wall of maturities” is now hitting shore. Both banking and the securitization markets have been dealing with regulation that is, in effect, lowering leverage points both in short term and long term lending.
It is important, however, to remember that capital markets are very efficient and resilient over the long run. So, when you look at the recent volatility in the CMBS markets over the past couple of quarters, it’s understandable for some to view the short run as an ominous cloud gathering overhead. You have to remember, however, that the capital markets have had to absorb a lot here with changes to the rules in the CMBS marketplace as well as exogenous factors such as the national economy and global economic and political events. It appears that the CMBS markets are back in business and while they probably won’t post the same numbers as last year in terms of volume, everyone is back to work.
Tightening lending standards especially among regional and local banks is primarily driven by more scrutiny from regulators. Additionally, smaller and mid-sized banks are less willing to take on new customers as they seek to serve existing customers while satisfying increased reserve requirements.
MHN/CPE: When do you think interest rates will rise and which will be the immediate effects of this increase?
JR: I think that it’s easy to say interest rates will go up. The real question is by how much and how quickly. We have all been waiting for these increases and have either hedged against increases or are underwriting using stress rates significantly above where we are currently. So, the immediate impact should be de minimis. The danger in a low income environment is engineering returns with cheap debt and straying away from property fundamentals.
MHN/CPE: In the conservative banking environment today, is overleveraging (still) an issue or are investors more cautious?
JR: I think for the most part, everyone is more cautious, however, to be frank, the term “overleveraging” is in the eye of the beholder. There are many deals that can take on higher levels of leverage and be a sound investment, namely “value added” and construction transactions that create significant value over and above the original capitalization. This can be done with either non-banking sources or the use of subordinated debt to get you to a level that provides the appropriate risk adjusted returns to investors.
MHN/CPE: Competition in commercial property debt is back to pre-crisis levels. Do you agree? Do you think this is cause for concern?
JR: I would agree with that statement, however, I don’t think that is a cause for concern for now. More competition doesn’t necessarily translate to lack of discipline. The lenders that I work with continue to focus on key metrics and are looking very hard at the quality and predictability of a project’s ability to generate cash flow. Also, if you take a look at most major markets across the country, supply and demand appears to remain pretty much in balance.
MHN/CPE: The market for alternative sources of debt has strengthened. Which are the most popular alternative debt sources now and why?
JR: Even with alternative sources for debt, high-quality borrowers with well-conceived business plans continue to borrow at some of the lowest historical rates and spreads for construction, bridge and permanent loans. That is expected to continue with national and regional banks and life companies leading the charge. I don’t see these groups yielding ground for these deals to alternative sources and they will win on pricing.
Debt funds continue to be a great alternative for those who are seeking non-recourse financing or have more complex business plans. Another great feature with these capital sources are their ability to underwrite higher going in loan-to-cost or loan-to-value ratios, particularly with projects that have a “value-added” component.
MHN/CPE: “Between 2005 and 2007, CMBS issuance soared, creating a wall of maturities from 2015 to 2017 that will be more than 2.5 times the amount that matured from 2012 to 2014,” according to research firm Trepp. It seems that this period (2015 – 2017) is a test for recovering capital markets. How would you say things are going so far? Do you think the situation will change in the coming year?
JR: The sins of CMBS 1.0 in the past are certainly being reckoned with right now. According to a recent Morningstar report, the payoff rate for maturing securitized loans dropped to its lowest level in more than two years, sinking to 62.7 percent. This payoff rate has been dropping consistently over the past few months. With approximately $128 billion maturing through the end 2017, that translates to tens of billions of dollars’ worth of loans that will not be able to be paid off. The main concern is with credit quality, loan-to-value ratios in excess of 80 percent and low debt yields. The real test comes as these loans are worked out with special servicers and that process is just starting. We are only in the very beginning of this.
Image courtesy of Newmark Grubb Knight Frank – Capital Markets