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On 18th September 2024, the Federal Reserve (Fed) cut the benchmark interest rate by 50 basis points (bps). This is the first rate cut since 2020, a period in which the Fed hiked interest rate by 525 bps over 11 announcements. This rate cut is announced in response to reducing inflation, and rising unemployment rate.
This is the start of a rate cut cycle and the Fed is likely to announce additional rate cuts in Q4 2024 and possibly more in 2025. The rate cut cycle will impact various sectors, including commercial real estate (CRE) in different ways. In this article, we share our thoughts on how the rate cut cycle will impact CRE lending and what it means for CRE investors and borrowers.
Lenders will pass on the benefits of Fed rate drop by reducing interest rates. The reduced borrowing costs will make it affordable for borrowers to finance new CRE projects. Existing borrowers will benefit from either lower cost in case of flexible rate loans or opportunities to refinance existing fixed rate loans. At the same time, the lower interest rates will open up new investment opportunities for CRE investors.
The lower interest rates will stimulate commercial real estate projects by improving the project ROI or increasing the viability of many projects. This will result in a surge in CRE deals and transactions. Consequently, the CRE lending sector is expected to grow at 2.2% CAGR till 2027.
The reduced interest rates will result in appreciation of CRE project values. The asset value adjustment and revaluation will help borrowers raise additional credit from non-bank institutions.
The lower cost of borrowing will enable CRE lenders to expand their financial product portfolios, offering products ranging from construction financing to bridge loans and more. Also, they will add new credit solutions to meet the vision and expectations of borrowers. Hence, borrowers will have more options to deal with CRE lenders who provide tailored financial products.
Commercial real estate loans are usually refinanced after 5, 7, or 10 years. About 4.3% of existing CRE loans are estimated to mature in 2024. The Fed rate cut will stimulate CRE loan refinancing by reducing borrowing costs. Borrowers will be able to refinance existing debts on more favorable terms.
CRE lenders absorb losses by maintaining credit loss reserves. Both banks and non-bank institutes increase their loan loss reserve to combat the deteriorating markets. The Fed rate cut creates opportunities for them to reduce loan loss provisions in two ways.
The reduced credit loss provision will help lenders increase liquidity ratios. The improved liquidity will enable them to fund new CRE projects.
The Fed rate cut cycle will contribute towards the stabilization of the CRE market in the long run. The rate cut announced by the Fed aims to prevent economic downturns. The stabilization will lead to a surge in CRE lending activities. Likewise, there will be a surge in the demand for credit to fund CRE projects.
Leading CRE lenders accelerate loan disbursements by forming partnerships and joint ventures with global asset management companies. Many believe that the Fed rate cut will have minimal impact on the existing partnerships. However, asset management companies must adjust their yield expectations to strengthen existing partnerships. The minimal impact on partnerships will ensure that borrowers can access customized loans without interruptions.
The Fed rate cut will lead to a surge in commercial real estate lending transactions. Many lenders would grow their loan books by financing new projects and refinancing existing projects. However, it is important to become more prudent and minimize financial risks through diligent underwriting. Lenders and investors with strong risk control and expertise in funding deserving They will emerge stronger by managing and mitigating risks. This will also help them in preserving investors’ wealth.
The cycle of rate cuts will drive short-term and long-term growth in the CRE lending sector. The reduced costs of borrowing will lead to a surge in CRE transactions. The rate cuts will stimulate CRE lending by creating financing and refinancing opportunities. At the same time, this will enable borrowers to negotiate with more lenders and seek tailored solutions. However, Commercial real estate lenders and investors must exercise prudent risk controls and actively understand and mitigate risks.
We at AVANA Companies, comprising AVANA Capital and AVANA CUSO amongst other businesses, are optimistic about the changing rate environment. The rate cut cycle will result in more CRE projects, giving us the opportunity to fund more social impact projects which will boost local economies and create jobs. Further, with our 22+ years of expertise in niche CRE funding sectors and strong focus on Risk control, we are placed right to generate superior risk-adjusted returns for our investors.
About AVANA Companies:
AVANA Companies (AVANA), founded in 2002, is an asset management platform aimed at building capital for a better tomorrow by stimulating economic growth, creating jobs, and contributing to sustainable projects. Headquartered in Arizona, USA with regional offices in Bahrain and Saudi Arabia, AVANA serves small businesses, entrepreneurs, Institutional and retail investors, and credit unions in these markets. AVANA provides private credit commercial real estate loans through AVANA Capital, AVANA CUSO, Ezdaher.sa and LendThrive™. AVANA also offers private credit commercial investment opportunities to institutional and individual investors through AVANA Fund and EqualSeat™.
AVANA Capital, LLC is licensed in California under DBO license number 603K752 and in Arizona under CBK license number 0921662. To learn more, visit www.avanacompanies.com or follow AVANA Companies on LinkedIn.