Underwriting Was More Aggressive in Q3 But CBRE Isn’t Worried

LOS ANGELES—As lending increased in the third quarter, so did aggressive underwriting. The underwriting on loans tracked by CBRE Capital Markets in the third quarter posted declines in underwritten cap rates and debt yields, marking a sharp departure from trends seen in the second quarter.

The increased aggressiveness was most apparent in the percentage of interest-only loans. The percentage of loans carrying either partial or full interest-only terms rose to 67.9%. “We saw more interest only loans,” Brian Stoffers, global president of Debt & Structured Finance for Capital Markets at CBRE tells GlobeSt.com. “It reached almost 68%, which is a new high.”

In the second quarter of 2019, 59.6% of loans were either partial or full interest-only and in the third quarter of 2018 those loans comprised 66.2% of the market. In the third quarter of 2016, they constituted 52.1% of the market.

With these quarterly ebbs and flows of interest only loans, Stoffers isn’t concerned about an overly frothy market. “I think we’re still looking at fairly low loan-to-values with lots of cushion [in underwriting],” he says.

Also allaying any potential concerns is the fact the increase in interest-only was not in full-term loans. The percentage of full-term interest only loans were only 14.8% after hitting 16.2% in the second quarter. In 2018’s third quarter full interest-only loans were 17.9% and they totaled 12.3% in the same time period in 2016.

“While we saw an increase in loans with interest only overall, the number of loans with partial interest-only increased while the number of loans with full interest only decreased,” Stoffers says.

These interest-only loans appeal to certain subset of borrowers. “Most borrowers of interest only-loans have a lot of equity backing the project, and thus qualify for the interest-only period,” Stoffers says. “Borrowers like the structure as it offers them a higher cash-on-cash return.”

Loan-to-value (LTV) can also be volatile from quarter to quarter. In the third quarter, LTV’s rose to 67.2% after hitting 65.3% in the second quarter. In 2018’s third quarter, they were 66.5% and in 2016’s third quarter they were 64%.

Commercial and multifamily LTVs both rose in the third quarter. Commercial LTVs averaged 62.8%, which was an increase of four-percentage points from the second quarter and 2.7% from 2018’s third quarter. CBRE attributes this increase to several low-leverage retail acquisitions and interest-only loans.

Multifamily LTVs came in at 67.9% in the third quarter, which was up 40 basis points from the second quarter and down 40 basis points from 2018’s third quarter.

“These numbers will vary slightly from quarter to quarter,” Stoffers says. “Overall, however, higher LTVs are indicative of the ‘wall of capital’ seeking investments in the space and the competitive nature between lenders. At this juncture, we don’t see overly aggressive lending taking place in the market by the lending community.”