The commercial real estate market encountered its first layer of problems when the credit markets crashed because lending on new deals ceased to exist over night. Many commercial real estate transactions were abruptly halted, borrowers with strong banking relationships and even stronger financial statements were rejected and funding for commercial real estate deals disappeared altogether. 

At the time, the market did not fully comprehend the extent of the damage and the compounding problems that would be caused by the years of free flowing cheap credit based on artificial real estate values. 

Since this infamous credit crash of 2008, circumstances have aligned to create the perfect storm. The commercial real estate market literally does not exist. There is no debt available to finance deals and there have not been enough deals done to determine current property values. Next, the few deals that have been transacted indicate a significant decline in property values and a sharp increase in cap rates.

It gets even messier once you consider fundamental value measuring tools such as rents. With vacancies increasing, landlords have decreased rents significantly across the board in all areas of commercial real estate including retail, office, industrial, and multifamily properties. Thus, purchasers and lenders simply don’t know how to valuate property. It’s cause for concern when a bank does not know how much a property is worth anymore. They are forced to lend far more conservatively than they used to, and this means borrowers have to put more cash into each deal.

All of this leads to the glaring problem at hand, MATURING LOANS!!!  If banks can’t valuate real estate and they have far less money to lend, what are borrowers going to do as their loan mature? What will they do as the loans they made between 2005-2008 begin maturing.  During those years banks were lending at higher loan-to-value ratios (LTV’s) and property values were higher than now. According to Bloomberg, almost $165 Billion in commercial debt is maturing in 2009 alone. Does anyone have a solution to this problem, with billions of dollars in loans maturing and no money to refinance?

If you consider the possible options, there are a few available to banks and borrowers. The $165 Billion in notes is probably secured by approximately $113 Billion in property (40% discount from 85% LTV, I can explain if you need further explaining), putting banks and borrowers under secured. If the banks call these loans as they mature, the borrower can either come up with the money, find a lender that will refinance the property after a large capital infusion by the borrower, or give the keys of the property back to the banks. The lenders can change their business from lending to asset management and we can see where the world goes. On the other hand, the banks can pick and choose on a case by case basis what they will do with each one of these assets based on borrower’s strength, property’s value and various other factors that I’d rather bill to discuss.

The real question is, what will banks do in 2011-13 as the 5 year notes from 2006-2008 start maturing??