Precarity in the (mainly US) commercial property market

Jake Rickman

Distinguished Member
Premium Member
Junior Lawyer 42
  • Nov 6, 2020
    74
    166
    Good morning everyone.

    An issue I have been low-key tracking for a few weeks now is the anxiety that has gripped lenders and other investors in the commercial property markets, particularly in the United States.

    By my read, the key word here is anxiety — not panic. This does not seem to reach the threshold of a market run like we have seen in certain aspects of the banking sector (e.g. SVB, Credit Suisse, etc.). Though, there is the chance that might change in the next few months.

    Tell-tale signs that something is brewing — and has been for some time — is that large commercial lenders like investment banks specialist investors that deal primarily with commercial property (and associated structured finance products like commercial mortgage-backed securities [CMBS]), have been selling off their holdings at relatively steep discounts.

    To illustrate the reasoning behind this, suppose you are holding on to a collection of commercial mortgages. For simplicity's sake, let's say you have 10 mortgages on your books. This represents ten separate obligations by the property owners that they will pay you the principal amount plus remaining interest on the loan.

    Suppose all mortgages are for £1m each at 5% interest for 15 years. These lenders use special calculations called amortisation figures to work out how much the loan is worth right now. I am simplifying, but a simple amortisation calculation might conclude that the face-value of these loans is £1.42m, representing both the principal amount (£1m) and the interest spread across 15 years.

    Of course, the investors with the mortgages on their balance sheets never receive them upfront. The payments are spread across 15 years.

    In an ideal world, you might be able to sell the mortgages at their face value — ~£1.4m — (minus a discount for receiving cash now rather than later due to the time value money principle). But if you are a lender that is concerned that there might be widespread defaults across the property value, you might accept far less to get these potentially risky loans off your balance sheet. After all, if a property owner cannot make the payments a year from now, the value of these loans might be worthless.

    --

    To spur some discussion, I'll put it to the forum and ask:
    1. What factors might explain why lenders are trying to get rid of their commercial property investments.
    2. Which commercial clients stand to be affected?
    3. What are the implications for law firms?

    If this development picks up steam, I might also write one or more articles on it, especially if this is of interest.
     

    About Us

    The Corporate Law Academy (TCLA) was founded in 2018 because we wanted to improve the legal journey. We wanted more transparency and better training. We wanted to form a community of aspiring lawyers who care about becoming the best version of themselves.

    Newsletter

    Discover the most relevant business news, access our law firm analysis, and receive our best advice for aspiring lawyers.