Market trend
2023 marked a turning point for market sentiment as the CRE industry faced high interest rates, geopolitical instability, and the threat of an economic downturn. These factors affecting liquidity led investors to remain cautious and delayed decision-making. Despite the economic pressures, asset-based financing vehicles such as CRE CLOs have shown resilience and performed well in a high interest rate environment. CRE CLOs contain floating rate loans and are actively managed, allowing sponsors or collateral managers to typically add new loans or remove non-performing loans. This flexibility is one of the reasons why CRE CLOs have outperformed conduit transactions.
Collateral managers have received numerous requests for modifications and relief to help loan originators manage their pools of mortgages and give borrowers room to execute their business plans while protecting investors. Again, uncertainty about how long high interest rates will last will pose a challenge in determining the optimal loan modification package. Other forms of asset-backed financing, such as warehouses, remain healthy, with traditional bank warehouse lenders continuing to be receptive to deals with the right locations, tenant mix and low leverage.
In terms of the assets underlying the transactions, the office space sector is taking a hit in 2023 as companies struggle to re-establish the pre-pandemic status quo of regular office work. The uncertainty felt by office owners is also impacting lenders. As a result, common business practices such as valuations and appraisals are in flux at a time when future demand is still an unanswered question. Insurance required by debt investors is also now more expensive and harder to obtain due to an increase in extreme weather events due to climate change, and is likely to remain so for the foreseeable future.
But CRE is a diverse asset class encompassing a range of real estate options, of which office is only one part. Deals focused on warehouse, energy, data center and other industrial space, where rent growth remains strong, are in demand.