T
he commercial real estate debt market is facing uncertainty in late 2024 as banks consider increasing activity after a period of relative inactivity. With over $6 trillion in CRE mortgage debt outstanding, the industry is waiting to see how bank lending levels will change in 2025. Banks hold the largest share of current CRE loans at 50.8%, with government-sponsored enterprises in second place.

    Al Brooks, head of commercial real estate at J.P. Morgan Chase, expects CRE balance sheet lending to pick up in 2025 from low levels seen in recent years. He notes that fundamentals remain strong in areas like multifamily, but sectors like office will take time to understand new demand. Balance sheet lending by large banks has been on the back burner since the Federal Reserve started aggressively hiking interest rates in early 2022.

    The Fed's benchmark borrowing rate reached its highest level in over two decades with 11 hikes between March 2022 and July 2023, before a 50 basis point cut in September. Many market analysts anticipate a quarter-point cut at the next meeting on November 7. Stephen Lynch from Moody's notes that banks are renewing loans with paydowns as sponsors contribute more equity or tighten covenants.

    A recent survey of senior loan officers showed a tightening for many successive quarters, but Lynch suggests this is due to delayed drawing on outstanding commitments and construction loans converting into permanent NOI-type properties. Despite some CRE loans facing distress amid refinancing difficulties, larger deals financed by banks could still be positioned for fresh capital.

    Moody's 2024 CRE bank survey found that the largest loans have featured conservative underwriting standards with an average loan-to-value ratio in the 50-60% range and debt yields averaging in the high single digits. The median percentage of bank-held CRE loan modifications more than doubled in the first half of 2024 compared to the same time in 2023, likely driven by hopes of interest rate relief later in the year.

    Laura Swihart from Dechert notes that banks remain largely inactive due to having seasoned loans on their books issued when interest rates were lower. She suggests alternative lenders will be a bigger force in the debt markets until the Fed brings down rates further. Swihart also notes that anticipated drops in long-term interest rates after the Fed's September meeting went away, and bank lenders have focused on large loans for "marquee properties" in the CMBS market.

    Regional banks filled much of the lending void left by large banks in 2022 but largely scaled back last year. Eric Newell from EagleBank estimates there are around $400 million in CRE projects seeking permanent financing on their balance sheet, a number similar at other regional banks. He notes that while EagleBank is focused on C&I lending, other regional banks may target these loans if interest rates drop further next year.

    Moody's Lynch suggests smaller banks that experienced significant CRE growth in 2021 and 2022 will be more conservative on the lending front for commercial properties next year. Larger banks not as heavily concentrated in CRE may be more willing to increase their exposure, but they have a less diversified business model and will need to put dollars to work.

    Warren Kornfeld from Moody's notes that C&I is the type of lending that offers regional banks the greatest opportunities for growth as an alternative to CRE. This is because smaller banking institutions face challenges tackling business lines like credit cards and automobile loans, making C&I a more natural market for them to expand into.