The CRE debt markets: open for business

It would be easy to assume that the CRE debt markets are closed due to the UK's macroeconomic environment. We are seeing a different reality. The markets are still open for certain transactions. The five-year SONIA swap rate, which was stable at just over 1% in 2022, was stable earlier in the year. After the September UK Government's "mini Budget", this rate peaked at just over 5%. However, it has since tightened to 3.75 percent. This is a slight improvement but still higher than what many have been used to paying over the past decade. There has also been an increase in margins charged by lenders. These factors combined resulted in liquidity being withdrawn from the market. Although this has limited the liquidity available to CRE debt markets due to cashflows not being able support the amount of debt they used to, it hasn't completely closed them. It is interesting that some alternative lenders and debt funds, which used to have to operate at a higher risk to earn their desired returns, are now able to lend on lower-risk opportunities. This allows them to compete with the cautious banks and improve their risk adjusted returns. Lenders are looking to invest capital in the most promising projects, so there is an increased emphasis on the quality and the underlying assets. Due to low investment volumes, it is difficult for high-quality transactions to be funded. Those who do need financing will receive warm reception from potential lenders. Sponsors are eager to find out if borrowing conditions will improve in 2023. With lower investment volumes, it is expected that H1 will see more refinancing. Sponsors may be able to take advantage of the quiet market and bring their products to the market earlier in the year, if transaction volumes are low and markets are relatively quiet. Lenders are focusing on cashflow as the main determinant of debt structure due to rising underlying rates. Borrowers can expect to have to do more due diligence, which could lead to lengthy processes. There will also be a greater focus on debt yield and interest cover ratios as factors that determine the maximum leverage possible. Potential lenders will likely place greater emphasis on hedging a larger portion of the loan. Sponsors must take the time to prepare transactions before they go to market. It is crucial to have a detailed information memorandum, backed by market insights and comparables, with supporting evidence. It is important to run a wide debt process. The best lender for any transaction may not always be the most obvious. There are many lenders in a changing market and the hot money from last week might not be the same one next week. Sponsors have never had a more critical role for a debt advisor. They ensure that transactions are prepared for the market, that the right lenders are approached, and all the while ensuring that execution risks are minimized and timelines are met. Disclaimer: This content was published by Savills plc on December 20, 2022. The sole responsibility for the information is with Savills plc. Published by Public at 11:38:06 UTC on December 20, 2022.