Liquidity Crisis: Are We At Bottom?

Doug Marshall
Market Assessment
July 31, 2008

It’s the question of the moment… where are we in the financing freefall? Are we still going down or are we ready to rise?

In a recent presentation, Eric H Better, a Vice President with George Smith Partners, listed both the positive and negative aspects of the current commercial real estate market:

The positives:

• Default rates on CMBS loans are 0.33% which is historically very good.
• Basic real estate fundamentals and underwriting are sound.
• The Fed is taking a very proactive role in assisting investment banks in their recovery, and

The negatives:

• Spreads are still wide, about 150 to 200 basis points wider than they were 12 months ago.
• CMBS lenders still cannot calculate their true cost of capital.
• Many CMBS lenders have permanently left the market; others are waiting for the market to come back.

As a sector of the capital market, conduits could be financing as little as 10% of the volume they did in 2007, from $240 billion in 2007 to $25 billion this year.

Until a reasonable yield curve can be determined on the bond side, the conduits are not the best lending alternative.

Concerning life companies, the news isn’t much better. While the life companies have the potential to provide about $50 billion of capital to the industry, experts like Mr. Better see them investing as little as $20 billion in 2008.

Instead of lending, many life companies have decided to purchase CMBS bonds. The wider spreads make them an attractive alternative to lending.

This year commercial banks have been the most aggressive of the three major capital market sectors. Select local, regional and national lenders are competing effectively against Fannie Mae and Freddie Mac for multi-family loans.

Commercial spreads, though wider than multi-family spreads, are typically better than what most life company quotes and many times without the reserve requirements and onerous prepayment penalties.

So are we at the bottom or will it take time and more time to correct the adjustment in this market economy? Right now it seems to be a “wait and see” world.

As Mr. Better points out, there are several things required before it can be said that we’re moving in the right direction: stability in CMBS pricing, bond investors returning to the market, and more stable and subtle swings in interest rates.

Your answer: hang on!


Source:
Eric Better, Vice President
George Smith Partners
July 2008 CRE Presentation: “Nationwide Commercial Lending”