Commercial Mortgages: Combination of good fundamentals, low interest rates and excessive capital has owners taking it easy

RICHMOND TIMES-DISPATCH

by Andrew Little, Special Correspondent

The Eagles could have been referring to today’s commercial real estate owners in the 1970s rock band’s hit “Peaceful Easy Feeling” as different parts of the economy are conspiring to enable strong property fundamentals and happy landlords.On the demand side, the preliminary gross domestic product registered 4.1 percent growth in the second quarter, producing jobs and modest price increases.Over 10 million more people are employed today than in July 2007, which creates demand to build new industrial properties and to fill office space and multifamily properties. The extra jobs also create more travel to fill hotels and more disposable income for consumers to spend in stores.

On the supply side, construction costs are rising with several parts of the country reporting labor shortages. Tariff concerns make prices for lumber, steel and other commodities volatile, all of which puts a lid on new supply in certain markets because higher costs make new construction more difficult.Steady, increasing demand and supply constraints create good fundamentals in real estate as landlords can charge more for their units, buildings, rooms or spaces.One area to disrupt peaceful easy feelings is rising short-term interest rates.The Federal Reserve is clearly signaling two more rate increases this year, which would push the 30-day LIBOR benchmark interest rate index to over 2.5 percent for the first time since October 2008.

With the 10-year Treasury recently at 2.85 percent, floating rate borrowers may soon consider switching to longer-term fixed rates.Overall rates remained low over the past month and are currently in the 4.25 to 4.35 percent range for 5- and 10-year loans offered by life insurance companies, according to the John B. Levy National Mortgage Survey. Conduit pricing is more expensive and ranges from 4.75 to 5.15 percent for 10-year loans depending on leverage.A byproduct of good fundamentals is that money continues to funnel into commercial real estate at a quick pace.New capital raises are announced every week where private equity has teamed up with an experienced lending group to provide capital that banks are unable to provide.

More capital chasing deals pushes cap rates down and prices up. It also forces larger groups to look in secondary and tertiary markets to meet their return objectives as they are priced out of primary markets.This trend certainly has benefited real estate in the Richmond region.The sale of downtown Richmond’s Turning Basin Building on Ten-X.com, a Boston-based auction platform that facilitates the sale of commercial properties, is a good example. The 92,814-square-foot, mixed-use building at 14th and Canal streets is home to Morton’s Steakhouse and Southern Railway Taphouse.

The auction attracted both local and out-of-town buyers.While the purchase has not closed yet, final pricing was about $12.6 million before Tex-X’s commission, a very solid price for a building that has been owned by the lender for more than five years.The other asset that was offered on Ten-X.com recently was Pocono Crossing, a 180,845-square-foot retail center off Midlothian Turnpike in Chesterfield County. It did not sell at the time of auction.An encouraging sign for Richmond commercial real estate is that significant out-of-town capital continues to make investments into the area across all property types.

Numerous funds and even foreign buyers have ventured here last year.For instance, Bridge Investment Group, based in Salt Lake City, bought two office buildings, formerly called WestMark Office Park on West Broad Street in Henrico County, in February 2017 for $45 million. It sold the two buildings this year for $62.4 million, Henrico property records show.Earlier in this year, Mapletree Investments, a Singapore-based real estate development and investment company, bought an industrial property at the Enterchange at Walthall, making its first foray into the Richmond market.Last year on the retail side, MetLife Real Estate Investors, an enormous institutional buyer, purchased West Broad Marketplace, the shopping center anchored by Wegmans and Cabela’s.For now, the combination of good fundamentals, low interest rates and excessive capital flowing into commercial real estate has owners taking it easy.

John B. Levy & Co. partner and investment banker Andrew Little can be reached at alittle@jblevyco.com.