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CRE Finance World, Winter 2014

construction permanent loan on a spec office building in downtown Denver, a market we like — the team, the project, and basis were right. We continue to see more on the multifamily side throughout the country, but especially in the southeast, Charlotte and Raleigh, for example. We have recently quoted deals in Phoenix and Salt Lake City. Obviously you still have the strong markets of New York, San Francisco and Boston. We are sort of in hold mode in D.C. and I think a lot of people are. The leasing activity there seems to have come to a standstill. I think everyone is trying to understand how the second phase of sequestration and the next round of budget negotiations are going to impact D.C. Brian Lancaster: Jon, do you find that the conduit originations are following that trend too? Those have typically been some of the secondary markets that CMBS has done very well in. Jon Strain: CMBS has to lend where people want to borrow. You can have great assets in secondary markets; it’s getting the bad asset in the secondary market that we are trying to avoid. We will even go to tertiary markets if the leverage is right. By nature, the portfolio lenders have a finite amount of capital and they cherry-pick the best markets to try to create their best portfolio. CMBS lenders basically bid and have the conviction that they can price whatever market and asset, and some people do it better than others. But we are definitely in secondary markets and I think there are some big opportunities for people who took advantage of low debt coupons before the cap rates moved. I think they’ve made a lot of money buying in Pittsburgh before the shale thing happened, and buying in some of the southeastern markets. I think the secondary markets have been very interesting. Brian Lancaster: Looking at CMBS origination, CMBS conduit originators have greatly benefited from the Fed’s QE3 which has driven investors into CMBS in search of yield driving down borrowing rates that conduits can offer borrowers thereby making conduits more competitive with balance sheet lenders. Is that the primary driver? Is there a rush to refinance? I think some analysts see issuance in 2013 at about $90 billion this year. Jon Strain: Yes, I think they’ve got a pipeline that says something like $90 billion including the agencies securitizations. It’s a big number but I think the low rates are having a double impact. One is that there is cheap enough debt that it is driving a lot of acquisitions. If you look at CBRE, Eastdil, Cushman &Wakefield, all of them are having post-recession record years of sales production. I think there is a lot of acquisition financing going on. We are seeing some of the 1.0 loans that are being re-financed early. Someone who may have a 2014, 2015 or even 2016 loan that they would have CRE Finance World Winter 2014 14 taken out in 2004, 2005, 2006, and now maybe they had created a lot of value. Rents have grown dramatically, so we are seeing people pay defeasance costs, or yield maintenance costs in order to take advantage of and get ahead of it, and they don’t mind paying that premium to get out of a 6% coupon into a 4.5% coupon for the next 10 years. So we have seen a lot of re-financings in addition to just the 2013 maturities. A lot of the floaters that got extended in 2011 and 2012 are being refinanced too. So there have been a lot of drivers of that production growth and I expect we will see more of that in 2014. Brian Lancaster: So what are your 2014 issuance expectations? Jon Strain: I don’t spend a lot of time looking at that wall of re-financed debt chart. I think 2014 feels like it will be similar to this year, although anyone who is in a production business saw when the Fed potentially was going to start tapering, rates jumped 150 BPS. Coupons went from 4 to 5.5 settled back into the 4.75- 5% area. That definitely slowed down production for a little bit. So I think if the Fed starts tapering and doesn’t do it perfectly, you could see production fall next year. It feels like $75 billion is a reasonable number. I always think $100 billion is a normalized number for CMBS, except for those peak years, but it seems like if we are above $100 billion it is a boom year but if it’s below $100 it is a building year. Brian Lancaster: One of the things that the Fed seems to be pretty consistent in saying is that even if we do taper we are going to keep the short-term rates low, probably for a few years. Do you think there will be a shift to borrower demand, say for floaters, as opposed to fixed rate, if rates go up or the composition shifts in 2014? Jon Strain: I think the only thing they can control is the short-term rates. I think they’re going to try to control long-term rates. But the banks are back with a vengeance lending on balance sheet and we are seeing CMBS lending rates in the 300-400s for a full leveraged loans, and we are seeing the banks do slightly lower leverage, but they are doing it plus or minus L 200s. So the banks are competitive for business they want. If you look at the Fed flow of funds pie chart and you see who actually holds all the mortgage loans, CMBS is only like 25% of the pie. Agencies are 25% of the pie, Life Insurance companies are 5 to 10% of the pie, and 40% of it is banks. So banks really dominate it and they are always floating rates. It’s the rare bank that makes fixed-rate stuff they securitize in the future, but generally they are floater based. CRE Finance World Roundtable Discussion: 2014 Outlook


CRE Finance World, Winter 2014
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