PRINT THIS STORY:

CHANGE TEXT SIZE:

Experts outline state of real estate financing

On Sept. 21, a group of finance professionals gathered in SCT's New York office to discuss the state of real estate financing. Participating in the roundtable were: Christopher Crovatto, managing director for commercial real estate, Bank of America; Edwin J. Glickman, executive vice president for product development, Capital Lease Funding; David M. Fishler, vice president, GMAC Commercial Mortgage; William Leamon, vice president, Chase Commercial Mortgage; Michael Higgins, managing director of real estate finance, CIBC World Markets Corp.; Debra Hazel, SCT editor; and Jon Springer, SCTXtra editor. A special report on that roundtable, "Finance in the Millennium," will appear in the December issue. Following is a preview:

SCT: Last year, things were going along beautifully until the summer, when everything went crazy. Then it evened out toward the end of the year. That didn't seem to happen this year. Is that right?

Crovatto: I don't know if you can say it didn't happen this year. I think what you find is the capital markets have become much more fluid. The greater the execution of the financing into the capital markets, the greater the propensity for somebody to fill a void when a niche arises. Last year, when you say things went crazy, mainly the capital markets' execution of securitization of mortgage loans ran into pressures from Russia, from liquidity issues.

So what happened to fill that void? Well, there were nontraditional lenders or traditional lenders who were absent from the market who came back in. The life companies came back in a much bigger way; the pension funds became much more active; credit companies such as ourselves also were able to pick up the pieces. And what that does is lead to a more normalization of any type of cycle.

Glickman: There is a difference between what is sometimes referred to as the meltdown of 1998 and what happened in the last number of months. The events of 1998 took the entire market by surprise. Immediately prior to that, the capital markets execution with respect to real estate financing had reached a level where spreads were very, very tight, and the only type of hedge mechanisms that were commonly employed were those involving hedges for the movement of Treasury interest rates.

After the events of 1998, when the meltdown took place, many companies decided they could no longer afford to operate on paper-thin or razor-thin margins, and they had to establish some new pricing levels. We began to see rates quoted over terms of spreads and floors by way of example, which would help protect against a tremendous opening of spreads due to a major drop in Treasuries. [We also saw the introduction of some new hedge mechanisms, including stocks, and other kinds of market operations to help better protect against these unexpected swings in the capital markets. So people were better conditioned, if you will.

Higgins: I think the best thing to happen to real estate was the shock of last year. It slowed up the supply; it really cut the REITs out of the market and turned off the spigot for a lot of financial players that were out there just — I won't say gambling, but they were playing the game. What happened this year is a different situation. Everybody was managing risk better, everyone was doing more securitizations. Volume by itself has been down because of lack of capital for the REITs. You have higher base interest rates.

Everybody this time around is hedging with swaps, which hedges your spread risk a little bit, but it's also a self-fulfilling problem. Last year, no one hedged; this year everyone hedged. And swap spreads are in the low 100s, vs. 65, 70 last year. That's a real problem, if everyone starts hedging with the same instrument. And this is across the board. I think you'll have a lot of torture victims this time; you'll have guys squeezed out slowly. The industry is changing, it's becoming more mature, and people are beginning to realize you need to make money in business in order to survive.