Money for new construction-especially for hotels-will remain difficult to come by in 1999, industry experts say, even as most sectors of the real estate market remain stable.

That sober outlook contrasts sharply with the euphoria that characterized the commercial real estate market for most of 1998. As recently as last June, investors were paying steep prices for New York office towers, with the expectation that rents would rise.

"It was getting too hectic in the first half," said Patricia Goldstein, division executive of Citicorp Real Estate.

But in late August the global financial market meltdown precipitated a credit crunch. As major financial institutions took huge losses in emerging markets, fewer banks were willing to buy pieces of syndicated real estate loans.

"I've got to believe that construction financing is going to be more difficult to obtain" in 1999, said William Sales of Tishman Realty and Construction Co. in New York.

For lenders, at least, that is good news, because it means less potential for overbuilding.

Hotel financing will be particularly hard to come by, Mr. Sales said. "It's one thing to have an office building that's 80% leased, but a hotel by its nature is empty the day you open."

According to James F. Titus, director of real estate research at Donaldson, Lufkin & Jenrette, interest rates on commercial mortgages widened to more than 300 basis points over Treasuries at the market's low point in the fall, but today most loans would be priced at 200 to 250 basis points over Treasuries. Hotel mortgages, however, would still be priced at a spread of 300 basis points or more, he said.

The budget and limited-service hotel sectors in particular are believed to have overheated.

"A lot of areas are overbuilt as far as economy hotels are concerned," said Morris Lasky, chief executive officer of Lodging Unlimited in West Chester, Pa. These hotels were "the easiest and fastest ones to build," Mr. Lasky said.

However, lenders who financed these economy hotels-mostly in transactions of about $3 million - required more equity from borrowers in the most recent wave of building than in previous cycles, Mr. Lasky said. "If they take these things back, they'll be in better shape than they've ever been."

Matthew E. Galligan, managing director of real estate investment banking at Fleet Financial Group in Boston, is bullish on office markets, in both suburban areas and central business districts. He is particularly keen on offices in prominent "24-hour cities" such as New York, Chicago, Boston, Los Angeles, and Washington.

In Boston, for example, the vacancy rate for class-A downtown office space is 2.5%, compared with the national average of 9%, according to Torto Wheaton Research, a division of CB Richard Ellis.

However, Mr. Galligan, said, there is some cause for concern in the apartment and retail sectors. In the West and Southwest apartment markets, for example, "it's easy to build, and you can get ahead of yourself growth- wise."

In retail, the fear is that the increasing use of the Internet to distribute goods and services will hurt some stores' ability to pay their rents. "Only premium malls may survive," Mr. Galligan said.

Mr. Galligan said he expects banks to compete to finance the construction of "trophy" properties, but not "the next rung down"-class-A properties that don't have as much cachet.

Banks generally have to syndicate construction loans to reduce their exposure, but "there is not a lot of a retail market to sell product into, many of those banks having scattered to the sidelines in the fourth quarter," Mr. Galligan said.

Therefore, he said, solid but not spectacular projects will have to be financed with more equity than before, he said.

Consolidation in the financial industry may also restrict the capital available for real estate, as merged banks find they have large exposure to real estate investment trusts and other real estate borrowers, said Stephen R. Blank, senior resident fellow for real estate finance at the Urban Land Institute in Washington.

Subscribe Now

Access to authoritative analysis and perspective and our data-driven report series.

14-Day Free Trial

No credit card required. Complete access to articles, breaking news and industry data.