CEO Fundrise warning for commercial environments - On the Market Podcast Episode

[Dennis Rogov]

Hello, 

I am not sure why nobody started discussion about this; 

Podcast 65 On The Market.. Cause to me that can be a real sea change.

What are is everyone thoughts regarding commercial space; 

I listened to podcast 2 times and it sounded like there is a potential that banks will no longer loan on commercial assets and will call in their existing mortgages.

He kept referencing 1992 I did some research about that era I was definitely not in real estate back then and it seems there was a major collapse  of commercial assets and literally after that nobody touched commercial for a while. 

[Henry Clark]

Didn’t see the podcast

All three of our bankers say they have to much cash they have to invest via loans. 
.    
1992 was coming off the high inflation error of the early 80’s.  Don’t know how many people were over leveraged back then versus now. 

Most investors our bankers say are in a good leveraged position today.  

What is your leverage position.  To me that is the key question for an investor today versus 1992.

what type of commercial property needs to be part of the discussion.  We do self storage which all of our bakers love.   Since cash flow and not tied to a large customer who might exit.  We also do subdivision lot development and lot sales. Very little leverage on that so bankers are fine. 

This past year we refinanced everything early. Part in long term SBA loans.  Conventional loans went from about 3 years left in 5 year balloon to a 7 year balloon.  Paying an extra percentage point for those remaining 3 years but now we don’t care what happens to interest rates for 7 years on existing assets.      

Bankers are bankers.  They want the deal to be collateralized unto itself.  They want your personal guarantee.  They want the business model to cash flow.   Under those situations and the fact they have to much cash to invest they will loan now and the near term. 

[Chris Davidson]

Quote from @Dennis Rogov:

Hello, 

I am not sure why nobody started discussion about this; 

Podcast 65 On The Market.. Cause to me that can be a real sea change.

What are is everyone thoughts regarding commercial space; 

I listened to podcast 2 times and it sounded like there is a potential that banks will no longer loan on commercial assets and will call in their existing mortgages.

He kept referencing 1992 I did some research about that era I was definitely not in real estate back then and it seems there was a major collapse  of commercial assets and literally after that nobody touched commercial for a while. 

 It was a great podcast I listened to it twice as well. It was a second sounding bell to BP Money episode 281? Where Tom Hoenig, talks about the current economic condition and macro aspects to it. A book to dive deeper into it is The Lords of Easy Money. While the future mirrors the past it doesn't always repeat itself directly, there will be some changes and things will shake out one way or another. IMO having capital is the biggest hedge and best way to set yourself up to take advantage of changing situations. However it is a hedge, I am not going to be the house on one possibility. I prefer to have a mix. Enough capital to take down some deals, while also some leverage to keep growth going. This episode made me consider that LOC's may dry up if lenders get tight, so extending LOC's for a longer horizon even at a higher rate is more ideal to me as well as building up cash, and moving into asset classes that will be the most liquid and least effected.

How are you preparing your portfolio to get the results you desire long term. 

[Michael Margarella]

Quote from @Dennis Rogov:

Hello, 

I am not sure why nobody started discussion about this; 

Podcast 65 On The Market.. Cause to me that can be a real sea change.

What are is everyone thoughts regarding commercial space; 

I listened to podcast 2 times and it sounded like there is a potential that banks will no longer loan on commercial assets and will call in their existing mortgages.

He kept referencing 1992 I did some research about that era I was definitely not in real estate back then and it seems there was a major collapse  of commercial assets and literally after that nobody touched commercial for a while. 

We are protecting ourselves from this by investing in assets that lenders generally “like” (self-storage and multifamily) and not taking maximum leverage. 

I think an important undertone to this dialogue was that there will likely be buying opportunities because other operators may not meet annual DSCR thresholds/be able to refinance at higher interest rates. 

[Mike Dymski]

If rates stay high for an extended period of time, the real estate market is in trouble.  More and more commercial and residential loans will reprice to existing rates of ~6.5% and levered properties with cap rates below interest rates will be cash flow negative.

The market is expecting the fed to cut in the second half of 2023 and the fed seems to indicate otherwise.  The fed cares about inflation and unemployment...they don't care about the commercial real estate market.  The fed has absolutely hammered interest rates...and it has done nothing to unemployment.  Employment levels are already down 3-4% from mass early retirement, extra deaths, no immigration for 1.5 years, and extra disability from long covid or claims of it.  Driving employment down further is not going to be easy.  As long as the job market and economy is stable, the fed will continue to keep rates elevated and liquidate their huge balance sheet (from excessive government stimulus) for as long as they can.

[Henry Clark]

@Dennis Rogov

*******Not offering financial Advice*****

Ok.  I watched the podcast.  46 minutes.  First podcast I have ever watched.  Enjoyed it.  The speaker needs a new chair to sit in.  Was squirming a lot.  But I did enjoy it.

Here are my take aways:

1. Downtown office buildings. Stay away. Most people on BP aren't doing those REI's.

2. Commercial in general, there is a question, but Commercial covers everything from local Bowling alleys to $5billion skyscrapers. At the BP level it is more about your LTV%, and most people will be tied with their Personal Guaranty and their Personal Financial Statement.

3. If you have adjustable rate or loans with maturity dates coming due within the next 2 to 3 years. Be prepared for your banker to call for a smaller LTV. Especially if you're in the say 60% to 80% LTV range. The one commentator said they were in the 4x% range and not expecting any calls for pay downs. You might be asked to pay down 10% to 20% of the principal.

4.  Residential- won't have the same impact as Commercial.

5.  Cascade affect.  Both on the Stock/Bond market (liquid assets), Finance companies, and individual Commercial property owners. 

-  If in 3 above, debtors get squeezed they will go to their liquid assets in Stocks/Bonds to liquidate to pay down.  Depending on the magnitude this will impact the Stock/Bond market.

-  Finance companies have bigger finance companies or insurance companies backing their loans.  These larger financers will not be willing to refinance, because their Finance backers will want paydowns also.  They also don't want to own assets.

- individual property owners, if they need to pay down and can't refi, they will turn to hard money lenders, but they also will require lower LTV%'s. They won't want to be in a position to sale, in a declining market.

So, where do you want to be:

A. Be in a cash holding position. Unless your already in a 60% or less LTV% position. Then start looking for deals. Might wait for 6 months to a year, let the market decline.

B.  Don't pay down your debt, unless forced to.  Keep cash nearby.

C.  Refinance sooner than later, if your refi is coming due in the next 2 to 3 years.  Instead of 5 years, ask for a 7-year balloon period.

D. Be careful moving into more asset positions, if you're adding to a weak LTV% position. Say 80% down to 60%. Again, this is for Commercial and not residential.

E.   If you have a Line of Credit.  Don't depend on it.  It may get pulled or not be honored.  Talk with your banker before you make a move with it.

Your questions What are our thoughts on Commercial?  Will banks call in existing loans?

- Commercial going forward is the same as always.  Run your numbers.  Then make your bet.

- Banks have to honor terms.  They might not refi, if they are coming due.  Because both them and their Finance backers don't have liquidity in the value chain for those funds.

@Dennis Rogov  Based on the above, where are you at, and where do you need to get to? 

Example:  If you have money in the stock market have you moved to Bonds and CD's; to have stable values if you need to convert to cash?  You don't want to have to sell them in a down market to pay down on your debt.

Example: How does your Personal Financial Statement look, compared to your REI Debt and LTV%? If you have Net Personal Wealth of say $500,000; and REI debt of, say $100,000 with LTV of 80%; then you should be fine. If you're with a company doing layoffs, then it doesn't look so good. Especially if your working from home.

No personal response needed.  But those are the types of questions someone watching that podcast needs to address.

******Not your Financial Advisor*******

To @Mike Dymski Fed points, what will happen in 2023:  Part of a separate post I did on 2023 outlook.  I like looking at commodities.  Easier to cut through all of the noise.

Commodities: March December 1st 14 days ago

Steel               $54.46 $35.60 $38.77

Copper                 4.75  3.82 4.22

Lumber             1,441 391 344

Silver             26.46 23.16 24.49

Crude oil       111.76 79.98 79.86

Natl gas       12.80 11.00 12.22

Corn              7.49 6.26 6.75

Soybeans      17.00 14.39 15.38

Different charts, different days, you will find different numbers for the above.

Believe we are still in a Whiplash effect. Nothing ever goes out of kilter far one way and then comes back to average or normal. What I love about the above numbers they are the Purchasing indicators by 10,000's of company Buyers and 100,000's of companies what they think the future holds. And the customer orders they need to fulfill. They are bidding against each other, causing inflation.

I see inflation coming back.  Not reflected above is labor costs, which I believe are increasing.  That will be remedied by Layoffs.  The Feds have two dictates, Inflation and Unemployment rates.  They still have a long way to impact Unemployment rates, thus they still have room to put in Interest rate hikes.  Average Fed debt life is around 7 years, before they also are starting to refi themselves.  They can't take to many years of higher interest rates, before they default.  People will bring up the interest rates in the early 80's of around 18%.  But our Federal Debt was super small compared to our GDP.  Now our Fed Debt levels are multiples of our GDP.  The Fed doesn't have the GDP horsepower to increase interest rates very high.

So yes, the Fed will continue to increase interest rates.  But they can't go very high or for very long.  They can't stop inflation going higher.

You want to be in hard assets that increase in value during inflation; and you want to keep your debt, so you can pay down your P/I with cheaper dollars in the future.

[John McKee]

Back in the early 1990's we had a recession with a weak domestic monetary policy.  Most banks reserves are now stronger as required by the government to avoid such collapses.  We have also have been waiting for this recession that the media has talked about for a year now.  There are signs of a slow down but I wouldn't worry about your Loan being called. My banker told me they like to see abut 15% of my portfolio in cash to weather any kind of storm.

[Joel Owens]

Sometimes lenders on properties that are non-optimal in the portfolio with TRY to find any reason to call the loan due especially if interest rate is low and they can relend that money at higher rates.

They can look for any reason to try.

These are more complex type deals.

Regular single tenant NNN are vanilla deals so nothing really to go after there.

[Cody J Leivas]

Doom and gloom seems to be high right now. Looks like a good market to get into. 

Banks are still giving money out, lots of borrowers have reserves, and banks have financial instruments to lock in their cost of borrowing over a certain amount of time. During the free money era, many banks borrowed funds with extended maturities. Banks calling loans are unlikely. 

Don't over pay but find properties with good basis and ability to raise NOI.

[Ash Patel]

I love that only Finance and RE folks are expecting rates to come down in late 2023.  At the Best Ever Conference last week, Neal Bawa stated that if the fed raises in June, we are all screwed.  The mood was a lot of doom and gloom among MF folks with paused pref's and lingering capital calls.  Here are some numbers to exemplify the real impact on cap rate decompression:

$30mm purchase at 3% cap (not uncommon - I have interviewed people that bought at 2.5%)
NOI = $900,000 (30,000,000 / .03)
Value at a 4% cap = $22,500,000     (900,000 / .04)

Loss of $7.5mm based on a one percent cap rate rise.

This does not take into account the variable rate bridge loans.

My advice for multifamily folks is to look at other asset classes.  Already they have pivoted to MHP's, RV parks, self storage, car washses and laundromats.  The cap rates in these asset classes have already compressed and they are saturated with people looking to deploy active and passive income into.

For over 10 years, I have been screaming from the mountain tops to invest in office, retail, industrial, land development, flex, warehouse, mixed use, restaurants and conversions.  We turn down deals that are 15% cash on cash all day long.  I will start a top level post on this.

[Henry Clark]

How does a post get chosen as a sticky? The only thing I note on this post is it references a podcast. The OP has not followed up on this post and it was months ago when they did their last post. How do we get more Commercial content? Realize BP is about churning SFH. But most of them will never invest, never scale, will burn out or move into MFH or Commercial.

Who do I talk with about increasing Commercial content?  

[Ronald Rohde]

Quote from @Henry Clark:

How does a post get chosen as a sticky? The only thing I note on this post is it references a podcast. The OP has not followed up on this post and it was months ago when they did their last post. How do we get more Commercial content? Realize BP is about churning SFH. But most of them will never invest, never scale, will burn out or move into MFH or Commercial.

Who do I talk with about increasing Commercial content?  

Mindy was who I talked to about the focus, the short answer is they don't care. The biggest push they would do is multi family stuff as "commercial" the CRE space is too big, too diverse, too difficult to sell the dream.

[Henry Clark]

Thanks. No value to me then. 

[Michael K Gallagher]

It was a great episode, I'm curious to see how this impacts things in the market place, hopefully there will be some larger over-levered hedge fund backed companies that get kicked in the teeth and the smaller boutique operators can pick em up and actually run them well. 

In general thought its really hard for me to believe that "commercial" as a whole is going to take a dive or become "unlendable" . At the end of the day if the asset is secured by solid leases that are with vetted companies with solid business plans then in my mind its still some of the safest investing you can do.  I could for sure see some moving of money out of assets like office and into Multi Family or Self Storage, but in my mind that just means there is opportunity as these funds exit these assets.

[John Boutros]

Buy the fear.