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Institutional Capital Chasing Commercial Real Estate as Safe Haven

JLL expects capital availability to lead to 15 to 20 percent transaction growth in 2013

CHICAGO, Feb. 5, 2013 — The classic credo “safety in numbers” refers to the theory that being one of many prevents disastrous mishaps.  The truth in that claim may be playing itself out in the commercial real estate lending market today as an increasing number of institutional lenders look to park capital into commercial real estate this year as a “safe haven.” Just how safe is their capital? That’s the question being debated this week by lenders gathering en masse at the Mortgage Bankers Association’s Commercial Real Estate Finance (CREF)/Multifamily Housing Convention & Expo 2013 underway this week in San Diego.

According to Jones Lang LaSalle’s Capital Markets experts, real estate debt financing remains an attractive risk-return option for many lenders in spite of economic volatility.

“We saw the Commercial Mortgage-Backed Securities (CMBS) market make a formidable return to $48 billion in issuance last year and that additional liquidity led to improved pricing and terms for borrowers,” said Mike Melody, co-head and executive managing director of Jones Lang LaSalle’s Real Estate Investment Banking business. “This has drawn a tremendous amount of liquidity in both debt and equity into the commercial real estate funding arena from a broad spectrum of lenders. That availability is causing an expanded level of competition for core product.”

Competition Fuels Aggressive Debt Structures
Competition for core product is opening up attractive opportunities for borrowers. Jones Lang LaSalle’s capital markets experts are seeing a variety of aggressive debt structures: 

  • Fixed rate products are seeking debt yields between 8 and 10 percent+, or DSCRs between 1.15x to 1.35x
  • All-in coupon rate targets fall between 3.00 percent to 4.50 percent, fixed or floating, often without rate floors
  • Sustained bond market rally in the second-half of 2012 has helped drive down funding costs, enabling CMBS lenders to reduce rates charged to borrowers. The life company insurers aggressively compete with CMBS for fixed-rate loans
  • Term is typically 5 to10 years with fixed or floating rate; if the latter, lenders must manage any potential risks

With a continuum of low interest rates and government debt yields, Jones Lang LaSalle expects the broad availability and aggressive cost of capital to support a 15 to 20 percent growth in core real estate investment volume year-over-year in the United States.

“The relatively low indices have created an attractive lending environment as all-in loan pricing remains attractive compared with alternative investments,” added Tom Melody, co-head and executive managing director of Jones Lang LaSalle’s Real Estate Investment Banking business. “We’re more bullish on capital availability this year than we have been in the last five years. Lenders all have greater allocations and equity capital is as available, or more available, than we’ve ever seen it before. Despite some near-term macro-economic headwinds, investment in United States real estate remains one of the few “safe havens” relative to other developed markets.”

The Association of Foreign Investors in Real Estate (AFIRE) concurs with Melody noting in its 19th annual member survey that the U.S. real estate market offers a stronger investment opportunity for foreign real estate investors’ money than it has in the last 10 years. Four out of the report’s top five most popular cities for global investment dollars are located in the United States with New York on top followed by London, San Francisco, Washington and Houston.

Fundamental Disconnect?
While more lenders are hungry for the best assets in primary and even secondary markets with high-quality sponsorship, the product simply isn’t widely available. This presents an interesting conundrum for investors and lenders, who are willing to compete, but they also recall the run-up in real estate values from 2005 to 2007, without corollary improving real estate fundamentals to support the projections. Unlike the height of the market in 2007, lenders see the property fundamentals improving and are they are more willing to move up that familiar risk curve again.

Core product has traded hands in Manhattan, Los Angeles and Washington, D.C. in the low four and high three-percent cap rates and overall market wide cap rates in the fourth quarter 2012 reached seven percent, which is only modestly above the 6.5 percent for the fourth quarter during the 2007 market peak. Jones Lang LaSalle has also seen an increase in transactions for core product in secondary markets with Seattle up 168 percent in 2012 over 2011, Austin is up 106 percent, Phoenix is up 44 percent, Denver is up 40 percent, Houston is up 20 percent, Dallas up 18 percent and San Diego is up 14 percent. Is the market already moving too far?

Tom Fish, co-head and executive vice president of Jones Lang LaSalle’s Real Estate Investment Banking isn’t concerned. “The most aggressive deals are only happening at the very high-end of the market so this isn’t a concerning industry-wide phenomenon,” said Fish. “We’re at an inflection point, as property fundamentals are holding up in a slowly improving economy, but there are uncertainties on the horizon with respect to long-term rates.  At some point, the Fed will slow down its Quantitative Easing efforts, which could lead to rising long term rates and consequently putting upward pressure on cap rates.”

Property Powerplays
For now, as the commercial real estate market has continued to improve, so has the position of many borrowers as they’ve already negotiated loan extensions and are no longer seeking new debt to finance their properties. Owners also have more choices and can run a process with their lender to improve loan terms on their assets, so they aren’t forced to sell or hand over the keys. Preferred equity and joint venture capital is also in aggressive pursuit of recapitalizations of existing partnerships where a long-term owner is ready to monetize without selling the asset. Today, mezzanine or preferred equity investors are looking beyond core and into secondary and even tertiary markets to gain a position in assets with yields as high as six to eight percent.
For those lucky owners with a core asset, they have greater flexibility as underwriting standards have loosened modestly and large loans ($100M+) remain attractive to many lenders looking to deploy large amounts of capital. Lenders are sizing the amount of proceeds using in-place cash flow, with an eye toward future projections.

Funding Forecast 2013
Jones Lang LaSalle is also watching the capital markets carefully. Given the relative increase in debt options for borrowers and a continued low rate environment, the firm expects favorable competition and pricing throughout the balance of 2013. Commercial real estate borrowers will benefit from increased capital availability from the following key sources:

  • Insurance companies to increase or exceed their real estate allocations in 2013 over 2012 reportedly by 10% in 2013
  • Domestic Banks are also actively seeking new commercial mortgage capital allocations and will remain a competitive source of funds for Class A properties in primary markets
  • To hear more about commercial banking strategies, listen to Jones Lang LaSalle’s Managing Director Dave Hendrickson discuss the curious amount of capital cash-rich banks are employing into commercial real estate.
  • Foreign Banks are an active and competitive source of funds for institutional quality sponsors and trophy properties. Chinese (Hong Kong) banks remained the most competitive capital source in this lending subset during the fourth quarter 2012, with strong activity also by the Singaporean, Canadian and German banks
  • CMBS lenders have increased their activity and finished the year strong at a post-recession high of $48 billion for new issuance.  New issuance levels are forecasted in the $60-$75 billion range for 2013
  • Alternative lenders, pools of opportunistic equity and newly formed mortgage REITs continue to raise significant amounts of equity to finance transitional properties, with combined capital raising levels for both debt (35 percent) and equity (65 percent) at record peak level of $73 billion for 2012.This should produce increased activity in Class B assets in primary markets and Class A assets in secondary markets.


To view more of Jones Lang LaSalle’s expert viewpoints from the Mortgage Bankers Association conference watch Jones Lang LaSalle’s video interviews on our YouTube playlist beginning Feb. 11, 2013:

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Jones Lang LaSalle Capital Markets is a full-service global provider of capital solutions for real estate investors and occupiers. The firm’s in-depth local market and global investor knowledge delivers the best-in-class solutions for clients — whether a sale, financing, repositioning, advisory or recapitalization execution. In 2010 alone, Jones Lang LaSalle Capital Markets completed $43 billion in investment sale and debt and equity transactions globally. The firm’s dealmakers completed $33 billion in global investment sales and buy-side transactions, equating to nearly $140 million of investment trades completed every working day around the globe. In the United States, Jones Lang LaSalle grew its office broker volumes by 257 percent in 2010 and is quickly gaining market share across all property types. The firm’s Capital Markets team comprises approximately 800 specialists, operating in 185 major markets worldwide.

About Jones Lang LaSalle
Jones Lang LaSalle (NYSE:JLL) is a professional services and investment management firm offering specialized real estate services to clients seeking increased value by owning, occupying and investing in real estate. With annual revenue of $3.9 billion, Jones Lang LaSalle operates in 70 countries from more than 1,000 locations worldwide. On behalf of its clients, the firm provides management and real estate outsourcing services to a property portfolio of 2.6 billion square feet. Its investment management business, LaSalle Investment Management, has $47.0 billion of real estate assets under management. For further information, visit