Over the past decade, alternative lenders have flooded into the commercial real estate financing market, now accounting for over $1 trillion in capital deployment. As conventional lenders pulled back following the financial crisis, a new credit environment emerged —ripe for opportunity by specialized groups with large pools of fee-driven capital. This includes major private equity funds, mortgage REITS, foreign banks and a range of other specialized financiers focused on filling needs traditional banks no longer meet.
Analyzing Lending Segments, Key Players and Strategies
CRE financing spans a range of activities and structures including whole loans, preferred equity, bridge loans, mezzanine financing, B-notes and more. The common tie is these vehicles come from non-bank capital sources charging premiums for specialized risk profiles and terms.
Leading the charge are alternative credit managers like Blackstone, Apollo and Ares Management. Blackstone itself has amassed a $230 billion dry powder stockpile. The typical strategy focuses on distressed assets, development projects and transitional properties. Terms often come with 1-2% origination fees, priority profit participation of 15-20% and leverage up to 85% of collateral value. While costlier than conventional financing through rates and fees, the value lies in quicker execution, flexibility and specialized structuring.
2023 Market Insights and Positioning for Borrowers
Transaction activity is projected to temper in 2023 amidst economic uncertainty. However, demand still remains solid for alternative capital vehicles across certain areas like industrial, multi-family and niche property sectors. With likely consolidation among top lenders, borrowing costs could rise with less competition even as risk appetite tightens.
For prospective borrowers, critical steps include proactively enhancing liquidity, targeting lenders specializing in specific asset classes and having a sharp outlook on repricing dynamics. Packaging the right project financials, partners and business plan will be vital to access the most attractive alternative financing packages in 2023 and beyond.
Impact of Rising Rates
The rate outlook looms large over CRE financing availability and pricing in 2023. Over the past year, short-term borrowing rates climbed over 400 basis points, translating into added hundreds of millions of dollars in interest expenses for borrowers. This stands to reshape how firms leverage alternative capital vehicles.
For example, heightened scrutiny on asset cash flows may shift focus to floating rate structures to manage potential downside protection. Meanwhile construction financing could face greater congestion as lenders mitigate development risks in turbulent times.
Evolution of Underwriting Dynamics.
Alongside rates, underwriting standards represent a critical balancing point from lenders. Alternative financiers were criticized for excessively slack standards that kicked off previous downturns. New financial regulations and lessons from past recessions led to more disciplined approaches.
However, niche lenders tend to still innovate in areas like LTV limits, pre-leasing thresholds and recourse requirements relative to commercial banks. Assessing these underwriting dynamics and flexibility will prove crucial to accessing capital. It could be the difference between a loan approval or rejection.
Implications of Distressed Activity Uptick
Another reality exists that higher rates, flagging valuations or developer overextension will lead to spikes in default rates for the commercial property market. Private equity and opportunity funds will be eager for these scenarios as the basis of counter-cyclical upside.
These implications come in forms of specialized financing determined by risk levels. Lending against properties in various states of trouble invites steeper pricing but offer borrowers a lifeline. For lenders, targeting distressed deals represent the highest margin plays when executed prudently. Understanding where to access this type of finance before crises emerge gives all parties an advantage.
Essencap offer a wide range of loan products.
DSCR Financing for Investment Property Purchases
Debt Service Coverage Ratio (DSCR) loans allow real estate investors to purchase or refinance investment properties based primarily on the asset’s cash flows rather than strict personal credit score requirements.
With DSCR financing, we analyze the net operating income (rental income minus expenses) of the property relative to the proposed mortgage payments on it. An investment property that rents out for $2,000 per month but has $1,000 per month in ownership expenses would have net operating income of $1,000 for DSCR analysis.
We want to see that the property’s net operating income sufficiently covers the requested debt payments, ideally with a buffer or margin. Common DSCR requirements are a minimum of 1.0 or higher.
For real estate investors, the key benefits of investment property DSCR financing are:
Purchase assets without large down payments
Qualify based on asset cash flows rather than personal score
Potentially obtain approval for more properties
Lock in fixed rate financing over longer terms
DSCR lending provides flexible options to purchase investment real estate based on the strength and cash flows of the assets themselves. Investors can build a portfolio of properties that generate positive cash flow to pay back loans over time.
This type of alternative investment real estate financing expands options beyond what traditional banks typically offer investors - especially smaller investors or those newer to the sector.
Essencap offers DSCR product in the 1 to 4 family investment, including apartment building, and mixed used apartment. Essencap also offer Bridge and Construction Loans in Alternative Lending spaces.
Many small real estate developers and investors turn to alternative lending sources like private investment funds or direct lenders for needed bridge and construction financing. These loans fill a critical gap when traditional banks won't provide the required capital for projects already underway.
Bridge Loans Bridge loans provide short-term financing to borrowers who need funds quickly before securing longer-term financing for real estate projects. The loans are typically for 12 months or less. Alternative lenders can often approve them more quickly than banks to allow projects to move forward or meet critical payments in the interim.
Construction Loans Construction loans provide financing for ground-up development projects like building a new home or commercial facility. Loan disbursements are staged to align with completion percentages to minimize risk. Terms correspond with realistic construction schedules, which could range from 6 months for a small home renovation to over 24 months for large-scale projects.
Benefits of Alternative Lending The main advantages of obtaining this type of interim development financing from alternative lenders include faster approvals, higher loan-to-value ratios, easier borrowing criteria, and improved flexibility on repayment structures. The loans fill a big need for real estate developers that traditional banks don't fulfill.