In a recession, cash is king — at least that’s the conventional wisdom. In a difficult market, the playing field becomes more level, and asset prices — especially in real estate — drop. Those with cash are in a better competitive position than they might otherwise have been.
But New York City isn’t a recession now, so what’s the cash advantage? There are those in the New York City commercial real estate market who believe that cash isn’t so much king in the current scenario as, well, a petty player strutting on the stage for a brief interval.
So much depends on one’s view of the credit crunch. There’s a camp that thinks it’s a summer blip that has already smoothed itself out, and there’s one that sees a more fundamental change in lending standards (see Q & A: Commercial sales slower).
Buyers in the New York commercial market have always had to put up “a decent amount of cash,” said Marcus & Millichap national multi-housing group director Peter Von Der Ahe, who notes, “now they just have to put up a little more.” The cash advantage is a real phenomenon in the commercial market — encompassing the purchase of apartment buildings, hotels, and retail, industrial and office space — “but it’s not turning the industry on its ear,” Von Der Ahe said.
Robert Knakal, chairman and founding partner of Massey Knakal, said the credit crisis was a factor — a minor factor — for a four- to six-week period that ended in early October. He said that for “transactions under $100 million, financing is as plentiful right now as it was six months ago.”
In the $100 to $250 million range, Knakal said, restrictions apply, but with no significant impact.
It is in the realm of larger deals, those with a value of more than $200 or $250 million, that Knakal concedes cash is big. Financing for that level of transaction is more “rigorous and challenging,” he said, but Knakal added that bracket of transaction represents a small percentage of deals being closed in the Manhattan commercial market, “maybe 50 deals out of 6,000.”
Most local market leaders agree New York City is weathering the current credit crunch better than other major U.S. cities, in part because of New York’s status as a “renters’ city.” The phenomenon of renting offers investors and lenders a high degree of security in a real estate market made precarious by foreclosures and the resulting stringent lending guidelines.
Other factors contributing to stability in the New York building sales market, said Eastern Consolidated executive director Eric Anton, are “capital infusion from other parts of the world” — particularly from investors in Europe, Asia and Latin America — and the city’s dominance in the financial services economy, with industries such as media, technology and insurance holding up well. Anton said that the Los Angeles and San Francisco markets also are doing well, with Chicago lagging behind, but not badly.
Nonetheless, Anton is among the believers in the local “cash is king” scenario. “Cash is critical,” he said, “compared to six months ago. It’s never been more true in any period since the ’90s.”
Tight restrictions on lenders are driving the situation, he said, and the advantage definitely is to “the guy who has money — he isn’t facing a big universe of competition right now.”
Not long ago, Anton said, a buyer in a $100 million commercial transaction could get a mortgage for 80, 85 or even 95 percent of the purchase price — and be required to put up only $5 million in equity. “Today,” he said, “rates are higher, lender qualifications/criteria are tougher, and a buyer might be able to borrow only 75 to 80 percent, putting up the rest of the purchase himself. So in a $100 million deal, the primary lender might put up $70 million and the mezzanine lender $15 million, leaving the buyer to provide $15 million of his own money.
“We’ll be seeing ‘a flight to quality,'” said Anton. “Banks will look to quality borrowers to do business with.”
Does this mean a shift in major players in the New York City commercial market? Certainly, “the deep-pocket guys are doing great,” said Anton. There’s “a real crisis of liquidity,” he added, as the mortgage and credit markets are still scrambling to find their footing.
There are no foreclosures on commercial buildings here yet, he said, but they could be coming, noting that banks are pulling the plug on some deals and “evaluating and dumping some situations.”
Still, he said, it won’t be the catastrophe of the early ’90s. While property prices might be depressed 5 percent right now, it is coming off record highs, backed by 60 to 90 percent increases over the past five years. Anton believes that any future price drops will be slight.
For his part, Von Der Ahe said there hasn’t been — and won’t be — a change in the big players. “Investors are used to using a high percentage of cash to purchase properties,” he said. “All we’ve seen recently is a 5 to 10 percent difference in the amount of cash a buyer has to put up. In other markets, lenders may require buyers to put up 20 percent [more].”
Anton predicted the market will take at least six months to stabilize, but there will be no significant ramifications.
“We will see the more sophisticated buyers, well-capitalized private buyers, back in the market soon. The private buyers that made their first fortunes in the early ’90s and who are comfortable buying property, and working out troubled situations with lenders, will jump in with both feet,” he said. “The REITs will be more quiet for a while, and may even sell some assets to show Wall Street their portfolio value is still at pre-credit-crunch levels.”
Hedge funds will also continue to be key equity providers for value-added real estate acquisitions and developments, Anton said.