T
he commercial real estate (CRE) landscape is shifting as central banks ease monetary policy and interest rates decline. This change may bring relief to the industry, but it also presents challenges and uncertainties that require lenders to adopt rigorous best practices for collateral value updates. Property values have stabilized across most sectors, with public REITs leading the rebound, but office remains a troubled asset class unless backed by strong occupancy and lease terms.

    Higher debt costs have been an added headwind for borrowers, making it essential for lenders to assess how properties are performing and address underlying challenges. Collateral valuations in a falling rate environment require greater scrutiny and risk management, as lenders need to stay on top of legacy loans facing issues in a challenging market for refinancing maturing debt.

    An estimated $950 billion of CRE loans are expected to mature in 2024, with many originating when interest rates were near 0%. Lenders must gain visibility into the factors impacting collateral values to evaluate risks and take appropriate action. Updated collateral appraisals provide clarity on current valuations, supporting decision-making for lenders.

    The rate easing cycle is expected to narrow the bid-ask gap, increasing transaction activity and providing more clarity on market values and cap rates. However, there is a stratification in the market, with opportunistic money on one side and investors dealing with problem assets or collateral on the other.

    Best practices for lenders include obtaining updated collateral appraisals, which are essential for internal reporting requirements and communicating with stakeholders. This proactive approach helps lenders understand where they stand regarding debt receivables in their portfolios and makes informed decisions about next steps for specific assets.

    Lessons learned from the rising rate environment highlight the need for updated collateral appraisals to manage risk and uncertainty. New originations are heading into a more optimistic environment, but maintaining periodic updates will remain essential for lenders. Updated collateral appraisals are a common practice on the equity side, and it's time to bring these best practices over to the debt side.

    Three strategies shape best practices: immediate triage, annual review, and determining valuation frequency and processes. Leveraging third-party expertise can support lenders with experience and expertise, offering recommendations based on industry best practices and timing approaches suitable for their fund.