Banking Overlords: The Armageddon for Commercial Real Estate Investors

June 26, 2023
Gary Hammond

Commercial Real Estate Insights and Strategies

In "Banking Overlords: The Armageddon for Commercial Real Estate Investors," Gary Hammond discusses the detrimental impact of banking consolidation on commercial real estate (CRE) investors. The consolidation of banks into fewer, larger entities limits competition, resulting in less favorable lending terms for developers and investors.

Banking Consolidation and Its Effects

The merging of banks increases the concentration of financial power among a few large institutions, leading to reduced competition and less flexibility for CRE investors. This consolidation impacts local markets as regional banks, which have a better understanding of local dynamics, are absorbed into larger entities, leading to a loss of tailored financing solutions.

2023 Banking Crisis

The failures of Silicon Valley Bank, First Republic Bank, and Signature Bank, which accounted for 2.4% of all banking assets, highlight the fragility of the current system. These failures have resulted in stricter lending standards, particularly affecting small banks heavily exposed to CRE loans.

Non-Bank Lenders as a Solution

Amidst banking consolidation, non-bank lenders such as family offices, private equity firms, and real estate investment trusts (REITs) offer a lifeline. These lenders provide greater flexibility and customized financing options, filling the void left by traditional banks.

Investment Opportunities in Non-Bank Lending

Platforms like Fundrise, RealtyShares, PeerStreet, and LendingHome offer alternative financing for CRE projects. Private equity firms like Ares Management Corp and Brookfield Asset Management are stepping into the lending space traditionally dominated by banks, providing crucial capital for CRE investments.

Conclusion

Banking consolidation poses significant challenges for CRE investors, but non-bank lenders present a viable alternative. By adapting to this evolving landscape, investors can navigate the turbulence and seize opportunities. The Financial Policy Council (FPC) remains committed to fostering entrepreneurship and wealth creation through informed financial strategies.

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Are the consolidation and concentration of power in the banking industry spelling doom for commercial real estate investors?

As my friends over at Commercial Observer mentioned recently in their newsletter “The shotgun marriages between lending institutions sold for pennies on the dollar to their Too Big To Fail overlords has become the feature, rather than the bug, of a federally engineered response” to bank failures.

“The Impact of Banking Consolidation on Commercial Real Estate”

Is an “Increased Concentration of Power” banking consolidation leads to fewer players in the banking industry, resulting in increased concentration of power among a few large institutions creating financial overlords.

This concentration can limit competition and potentially lead to less favorable lending terms for commercial real estate developers and investors. With fewer banks to choose from, investors may face limited options and less flexibility in negotiating loan terms and conditions.

Consider the “Impact on Local Markets” regional banks often have a better understanding of local markets and may have a closer relationship with local commercial real estate developers and investors. As these banks consolidate and potentially centralize their operations, there is a risk of losing that local knowledge, connection and reduced access to capital. This could result in less tailored financing solutions and a reduced understanding of local market dynamics, potentially impacting the success and viability of commercial real estate investments.

“2023 banking crisis quick peek”

In the United States the three banks that failed this year — Silicon Valley Bank (SVB), First Republic Bank (FRB) and Signature Bank — accounted for 2.4% of all assets in the banking sector according to Felix Salmon, the chief financial correspondent at Axios Markets. Among them First Republic had been closed and sold to JPMorgan Chase already the largest bank in the United States and the world’s largest bank by market capitalization (as of 2023) Wikipedia.

Outside of the United States and other central banks, attempts to calm the banking crisis came most notably from Switzerland, where on March 19, Credit Suisse was acquired by rival UBS in a government-brokered deal with an attempt to halt the banking crisis. UBS and the Swiss government were praised for the deal, seen as a way to prevent Credit Suisse, itself considered a systemically important financial institution, from collapsing and causing further crisis within the banking system.

Thomson Reuters noted in new analysts report from JPMorgan Private Bank that compared to big banks, small banks hold 4.4 times more exposure to U.S. CRE loans than their larger peers. Within that cohort of small banks, CRE loans make up 28.7% of assets, compared with only 6.5% at big banks. More worrying, a significant percentage of those loans will require refinancing in the coming years, exacerbating difficulties for borrowers in a rising rate environment. This ultimately means stricter lending standards.

Governor Michelle W. Bowman of the Board of Governors of the Federal Reserve System in her speech “The Consequences of Fewer Banks in the U.S. Banking System” states that there are several features of the current U.S. banking system that suggest there is an unmet demand for de novo bank charters. She briefly note three in particular: (1) the ongoing demand for “charter strip” acquisitions; (2) the shift of traditional banking activities out of the banking sector into non-bank financial entities, or the “shadow banking” sector; and (3) the rising demand for banking-as-a-service partnerships. Obviously the second one is an Ah-ha-moment I’m eluding too for investors, read on!

“Just how worried should you be?”

I read recently in Fortune Finance that “Experts in the commercial real estate space didn’t mince words when speaking with Fortune: Buckle up, they say, for more CRE defaults.”

Recently a 3200 unit Houston apartment-building investor defaulted on its loans, due to raising interest rates, apartment building values declining and with floating-rate mortgage the property no longer generated enough profits to make debt payments according to an article published by Connect News a daily source for Commercial Real Estate news.

Undoubtedly, not every developer or investor will discover the ideal remedy for their capital requirements. As a consequence, defaults will surge, and distressed properties will flood the market as their values decline. Yet, amidst this challenging landscape, astutely capitalized investors will seize the opportunity to acquire these distressed assets. It is my sincere hope that you as well as these perceptive investors have had the privilege of reading my previous blog, ‘Thriving Amidst Chaos: Unraveling Opportunities in the Volatile Commercial Real Estate Landscape.’ The strategies unveiled within that enlightening piece will serve as a guiding beacon, illuminating the path for the entire investor community, navigating them towards triumphant outcomes amidst this tumultuous environment.

I must say in my investor hindsight all this is almost biblical, as the signs of impending trouble had long been etched on the walls of financial markets before these bank failures struck. The realm of commercial real estate, particularly in the office space sector, had already been grappling with escalating vacancies and plummeting property values, fueled by a workforce reluctant to embrace the confines of the nine-to-five routine as I have done. As if that weren’t enough, we can expect the aftermath of these recent banking crises to some extent to exacerbate the challenges faced by the commercial real estate community, potentially unleashing a storm of tightened lending standards for commercial real estate lending.

“Unlocking Opportunities: Non-Bank Lenders in Commercial Real Estate.”

CNN Business published “Commercial real estate is in trouble. Why you should be paying attention”.

CNBC published an article “The coming commercial real estate crash that may never happen.”

Forbes “Why Commercial Real Estate Could Cause The Next Bank Failures”

Open controversies and opinions exist, however one realization of mind is in this prevailing air of uncertainty, it is my humble belief that the landscape for commercial real estate developers and investors is far from bleak. In fact, a silver lining emerges in the form of compelling opportunities for non-bank lenders. As traditional regional banks consolidate and potentially retreat from certain market segments, a void is created, one that can be expertly filled by non-bank lenders, including esteemed entities such as family offices, private equity firms, real estate investment trusts (REITs), and alternative lending services.

As mentioned above there are private alternative solutions within the investor community, however I wanted to bring to your attention these more popular platforms offering alternative financing options for commercial real estate projects:

Fundrise: Online commercial real estate investment platform.
RealtyShares: Crowdfunding for commercial property investment.
PeerStreet: Residential and commercial real estate debt platform.
LendingHome: Online real estate financing platform.

Alternative financing options provided by non-bank lenders can offer greater flexibility, customized solutions, and potentially higher returns for commercial real estate investors. It is the non-bank lenders, who possess the nimbleness and ability to adapt swiftly to the changing tides. They offer diverse financing options tailored to specific niches and situational needs within the commercial real estate sector, which often surpass the limitations of institutional lenders. Non-bank lenders proudly stand among those poised to seize these lucrative opportunities, enabling developers and investors to unlock their full potential while delivering unparalleled financial solutions. We must embrace this paradigm shift, and let us chart a course towards triumph together.

“The Paradigm Shift: Embracing Non-Bank Lenders”

I want to clearly emphasize the realization that non-bank lenders can fill the void left by traditional banks in commercial real estate financing. And I believe once investors embrace non-bank lending as a normal form of financing there will be no turning back. PE and investment management firms including Ares Management Corp, Brookfield Asset Management and KKR are lending in areas traditionally dominated by banks, Reuters.

In an Analysis: Private equity steps up lending as U.S. banks pull back its noted that direct lending by non-bank creditors contrasts with the more widespread practice of banks underwriting debt that they can sell in secondary markets. Experts state “With loan terms tougher and tighter, the option for private credit providers is on steroids,” said Drew Schardt, head of investment strategy at Hamilton Lane, one of the largest investment firms in private markets.

To practically explore alternative financing options in commercial real estate, investors can follow a systematic approach. Begin by conducting thorough research on non-bank lenders and crowdfunding platforms, considering their track record and transparent investment processes.

Understand the various financing options available, including debt financing and equity investments, and evaluate how they align with your investment goals. Assess each option’s terms and conditions, comparing them with traditional bank financing, and seek professional advice from experts in commercial real estate investing and financing.

Diversify your portfolio by allocating capital to alternative financing options and stay informed about market trends and new opportunities. By following these steps, investors can navigate the landscape of alternative financing effectively, make informed decisions, and unlock the potential benefits offered by non-bank lenders in the commercial real estate industry.

Conclusion

In summary, the consolidation of the regional banking sector in commercial real estate can lead to reduced access to capital, increased concentration of power, potential loss of local market knowledge, stricter lending standards.

These consequences will create challenges for commercial real estate investments, particularly for smaller investors or projects seeking financing. It is important for investors to closely monitor market changes, adapt their strategies, and explore opportunities for non-bank lenders offering alternative financing options to navigate these potential challenges effectively.

As it was in 2008 the resilience of the CRE sector will be tested, and only those who can adeptly adapt to the evolving landscape will emerge triumphant. Now, more than ever, it is imperative to remain vigilant, agile, and proactive. By anticipating and strategizing for the potential storm, we can weather the turbulence and forge a path towards sustainable success.

Let us rise above these challenges and prove that even in the face of adversity, the commercial real estate industry can emerge stronger, more resilient, and ready to reshape its future.

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