Banks Reporting Stricter Underwriting Guidelines

Credit conditions for multifamily, construction and land development remained tight in the second quarter, with a significant number of banks reporting stricter underwriting guidelines, reported Wells Fargo Securities, Charlotte, N.C.

“As the sector reaches a mature stage in the cycle, banks are being more selective and are considering concentration and geographic risk,” Wells Fargo Securities Senior Economist Anika Khan said in the firm’s second-quarter Commercial Real Estate Chartbook. “Construction and multifamily bank lending growth remains in the double digits, but the pace is slowing.” 

Apartment deliveries will likely outpace absorption this year, which will put upward pressure on the vacancy rate, Khan noted. “Submarkets in cities where completions account for a large share of total inventory, like New York City, Nashville and Charlotte, bear watching,” she said. 

Lenders have taken notice of those “pockets of risk” and tightened lending standards for apartment and construction loans, Khan said. The Federal Reserve’s Senior Loan Officer Opinion Survey on Bank Lending Practices reported that many banks have tightened their loan underwriting. 

“Construction and multifamily lending growth remains robust, but the pace is just beginning to show signs of moderating,” Khan said. 

Despite a stronger dollar, capital inflows from abroad have boosted overall commercial real estate pricing, Khan said. But she noted that the pace of foreign investment in the four key property types slowed as international investors including the Government of Singapore Investment Corporation and Canada Pension Plan Investment Board divert more money into student housing. “That said, activity from China has already tripled relative to the same period a year ago, as a private investor expands its reach in the hotel sector,” she said. “With foreign investment still growing, valuations reached an all-time high in May.” 

Khan noted that CRE’s risk premium remains favorable. “Based on a four-quarter moving average, the all-property cap rate compressed in the second quarter, marking six years of falling yields,” she said. “The spread between cap rates and the 10-year U.S. Treasury yield remained largely unchanged during the quarter, with the level still elevated relative to historical norms.”