With banks retreating from commercial real estate lending amid concerns about the pandemic’s impact on retail and office occupancy rates, alternative lenders have emerged as the largest source of new loans.
In the third quarter, private debt funds and other alternative lenders accounted for 39.1% of all CRE originations, up from 34.9% a year earlier, according to new data from CBRE Group. Conduits for commercial mortgage-backed securities also enjoyed strong growth. Banks had 23.1% market share, down from 38.3% one year prior.
“Debt funds really started hitting full stride during the second half of 2020, in the midst of the pandemic, when banks were largely on the sidelines,” said Brian Stoffers, global president of debt and structured finance at CBRE.
For years, nonbank lenders have used aggressive underwriting tactics to seek out high returns in commercial real estate lending, and they have been gaining ground on banks. When the COVID-19 pandemic emptied office buildings and shuttered retail stores across the United States, the trend accelerated.
Banks themselves are often the source of funding for these debt funds, Stoffers noted. He said that while banks may charge back into commercial real estate lending, they may do so through alternative lending channels, which would preserve the new balance in the market.
Overall, commercial real estate lending is showing signs of strength — despite some uncertainty about whether recent trends, such as the need for less office square footage as work-from-home arrangements persist, will prove permanent.
CBRE’s index for CRE lending activity in the third quarter increased 31.6% from June and has more than doubled from where it was one year ago. The index is also 29.1% higher than its level in February 2020, just before the COVID-19 pandemic.
Banking executives are eager for a broad rebound in loan growth next year, but heightened competition from nonbank lenders may make it harder to achieve such a boost in commercial real estate lending.
“Commercial real estate is becoming more competitive,” Terrance Dolan, chief financial officer of the $567 billion-asset U.S. Bancorp in Minneapolis, said in a recent interview.
Still, Stoffers said, “Banks will enter 2022 with new allocations and target volumes to achieve.”
Two parts of the commercial real estate market are booming: loans for multifamily and industrial properties. The volume of loans backed by industrial properties in nonbank portfolios more than doubled between December 2019 to June 2021, according to an Oct. 19 report from Moody’s Investors Service.
But in other parts of the CRE market, including the office and retail sectors, “many banks spoke of continued hesitancy to meaningfully grow” balances next year, analysts at Fitch Ratings wrote in a Nov. 5 report.
Loans backed by office space were the only part of the commercial real estate market in which new originations declined between December 2019 and June 2021, according to Moody’s.
“The popularity of remote work arrangements has risen, and with it questions on the post-pandemic role of offices, making it likely this property type will experience increased vacancies over the next couple of years,” Moody’s analysts wrote in the report.
Moody’s expects office loan performance to be “fairly stable” over the next 12 to 18 months, partly because many tenants have taken out long leases. To guard against a more severe downturn, backers of debt funds, which often have large exposures to the office sector, have generally piled in additional reserves.
One alternative lender, the real estate investment trust Apollo Commercial Real Estate Finance, “has increased confidence that there is enough liquidity in the market to support underlying assets as they continue to face pandemic-induced headwinds,” according to a report Thursday from analysts at BTIG, which recently hosted a fireside chat with the company.
There are niche parts of the commercial real estate business that are well positioned to yield growth in new originations next year, Stoffers said. Bridge loans, which typically carry relatively short terms of three to five years, have become increasingly popular, and even some sections of the office market can be a source for new growth, he said.
“In general, well-leased core office loans are very much in demand right now,” Stoffers said. “Less so for suburban office loans.”
