As Credit Flows, CRE Cycle Stretches on – But for How Long?
There were some differences of opinion, but a panel of commercial real estate leaders at DLA Piper's Global Real Estate Summit on September 26, 2017 in Chicago agreed on one thing: as the economy goes, so goes commercial property.
The panel, titled "Current Finance Markets" and chaired by Moody's Investor Service Senior Vice President Daniel B. Rubock, discussed spreads, LIBOR and how Moody's rates investments. The session also incorporated live-polling technology to survey audience members on a few important questions:
1. How long can the sustained economic expansion last?
Both the panel and audience predicted continued expansion, even as the current cycle approaches its ninth year – having already survived beyond the average cycle lifespan of seven years. Ten percent said it would last another 12 months, 35 percent said 24 months and 45 percent said the expansion had three years left.
Dean A. Dulchinos, head of Structured Real Estate Investments at Barings Real Estate Advisers, said bank activity was a key indicator. "They're regulated institutions with limits on how they can transact. Modest, straightforward and sound leverage from a principal perspective is the result."
Thomas M. Flexner, global head of Real Estate at Citigroup agreed. "We're seeing slow, moderate, measured growth, and we haven't built up excesses like we did for the '08 collapse," he said. "I don't think there's a law of nature that says a cycle has to turn."
But the panel expressed some caution. "When you don't see what's going to hit you, it's going to hurt that much more," said Sheridan "Schecky" Schechner, managing director of Real Estate Investment Banking at Barclay's Capital.
2. How do the underwriting standards and/or pricing for CRE lenders compare with 12 months ago?
Most of the audience said standards were as pliable (47 percent) or less pliable (35 percent), with only 7 percent saying they were more pliable. It's a matter of competition, panelists said. "Where there is more supply, lenders compete on price," said Mark L. Myers, executive vice president and head of Commercial Real Estate at Wells Fargo. "And where it's difficult to compete on price, they compete on structure and underwriting standards."
3. Where will 10-year Treasury rates be in 12 months?
Twelve percent of the audience said rates would drop to 2.25 percent, from 2.31 percent the week of the Summit; 41 percent predicted an increase to 2.5 percent and 35 percent expected 2.75 percent. No one said they would fall as low as 2 percent.
Flexner noted the Bloomberg consensus that rates would rise to 3.18 percent and that 10-year Treasury notes are generally driven by inflation. Moreover, he said the industry should watch and analyze European markets. "If the euro rates rise, ours will almost have to at some point just to keep currencies alive," Flexner said.
Myers said at these rates, he'd be levering up. "As long as I can. And as much as I can."
4. How long until there is a downward correction in the CRE markets?
Thirty-seven percent of respondents answered 24 months, while 21 percent said 36 months. Just 5 percent predicted a downturn in the next year, but 37 percent, perhaps tellingly, said they didn't know. Rubock reminded the audience that DLA Piper's annual State of the Market Survey report found that while investors are bullish about the market, lenders are bearish.
5. Is the retail sector doomed?
No one said retail was doomed – echoing the sentiments of most respondents in DLA Piper's State of the Market Survey. With the sector struggling amid e-commerce and other factors, 7 percent of the audience said retail was in trouble, 64 percent said it was troubled but had bright spots and 29 percent said it would pull through.
In 1997 there were 2,000 regional malls, compared with 1,200 today with further decline expected, Flexner said. The panel agreed that a new type of retail would emerge, but nobody could say when.