Western Real Estate Business

OCT 2016

Western Real Estate Business magazine covers the multifamily, retail, office, healthcare, industrial and hospitality sectors in the Western United States.

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www.REBusinessOnline.com Western Real Estate Business • October 2016 • 37 Over the past three months, how have your bank's credit standards for ap- proving new applications for loans secured by multifamily residential proper- ties changed? Eyewitness Storm Reports The reactions to regulatory pressure, accentuated by the Fed's November communiqué, vary widely, from no change to a full halt to construction lend- ing. If you are in the business, someone might well have moved your cheese. Below, in my notes from conversations with several capital providers, you'll find varying interpretations that only further complicate the storm. National non-recourse construction lender: "HVCRE will require 150 percent of normal reserves — 8 percent reserve is the minimum for a bank. If all loans are HVCRE the bank would need to move to 12 percent. That capital reserve is the same amount as what's required for holding a loan as 90 days late. Some banks are looking at all the construction loans as being HVCRE, and reserving against that, just to be safe from the regu- lators. The FDIC didn't even understand the Dodd Frank stuff. The FAQs were unclear and conflicting. The FDIC still didn't know until the third quarter of 2015. The regulators are now getting up to speed, and they are leaning on the banks. "The regulators did another stress test on the big banks. Only Citi passed this 'living will.' Now all big money center banks are getting beat up by the regulators. They are getting especially pounded on construction lending. These banks are quoting construction debt only to lose the bid. The ones that are stay- ing in the business are getting significantly better pricing. We are seeing deals that would typically never have come our way. Those borrowers don't like our pricing, but their old options are worse. The regulators are going to help all debt funds' businesses. The regulators don't like the construction lending in the banks. They want it in the shadow banks." $11 billion West Coast banker: "Construction lending is bringing in a lot of phone calls. We do a lot of it, but right now we are capped out. We'll only do so much. Only long-term borrowers are getting the love. The market is tightening up. On the borrowers we know, we are in the game." $800 million California regional banker: "There is considerable confusion about Basel III. SFR tract is not HVCRE. More than three units of attached product and it does apply. But, some others will say that condos do not apply. There is a lot of volatility in interpretation. No 150 percent rule on SFR detached. If we have to put up higher reserves, we charge more. We stayed away from more than four units to avoid the HVCRE. About 15 percent of future LTV has to be cash. As the sales unfold, then the project could become HVCRE as the cash is deemed to come out first and then your project can be out of balance, with profit returning all the invested 15 per- cent cash." Family office joint venture equity provider: "We have also been seeing the tightening and recent pull back you alluded to from nearly all of our development-related financing sources. It appears as though a majority of lenders filled their development buckets and associated construction allocations early in the year, which is allowing them to be very selective on what projects they now move forward." Understanding Impacts While we don't see this as a catastrophic change, we do see disruption and marginal changes on the debt side of the equation, such as: • Lending rates increase • Leverage decreases • Private lenders grab more market share • A continued disconnect between front lines bankers and their credit officers • Marginal deals may be left out as banks become more selective Finding Shelter We know developers overcome challenges far greater than this on a regular basis. As the landscape changes, here is where we see shelter: • Relationships — This business is still largely relationship driven. Aside from the personal connections, banks that enjoy a rich depository connection to a borrower are going to be far more willing to accept the burden of a 1.5x on loan reserves for construction loans, and the increased regulatory scrutiny, than a bank looking at a one-off construction lending opportunity. • Smaller banks — Banks with less than $2 billion in assets are much less im- pacted by Dodd Frank. These banks will not do your $55 million construction loan (it's just too big), but they might happily fund your $12 million loan. I sus- pect they will see a significant competitive advantage in this new environment. Unless you are a marquee client, it might make sense to steer away from money center banks and toward the best local bank(s) in your market. • Diversify — Don't put all your faith in one lender as the go-to source for con- struction debt, or any CRE debt for that matter. Few bankers can back state- ments like "we'll be there for you" when both the regulators and the credit committee/credit culture of the bank can veto that sentiment. • Know thy banker — The best bankers know what will fly in their institution and how to get deals done. A close alliance with them can make sure both you and the banker successfully fund your deals. • Use an advisor — It's a jungle out there, and unless you are in the market every day, it can be tough to know where the best opportunities reside. As with many markets, you may benefit from engaging a professional to advocate for your borrowing needs. Kevin Choquette, Founder, Fident Capital in San Diego All Respondents Large Banks Other Banks Banks Percent Banks Percent Banks Percent Tightened Considerably 2 2.9 2 4.9 0 0.0 Tightened somewhat 23 33.3 17 41.5 6 21.4 Remained Basically Unchanged 44 63.8 22 53.7 22 78.6 Eased Somewhat 0 0.0 0 0.0 0 0.0 Eased Considerably 0 0.0 0 0.0 0 0.0 Total 69 100.0 41 100.0 28 100.0

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