Magazine article Mortgage Banking

Capital Extension

Magazine article Mortgage Banking

Capital Extension

Article excerpt

Mortgage origination volumes are often used as a gauge of the availability of capital for commercial real estate. Large origination volumes in 2006 and 2007 signaled widely available mortgage credit, depressed volumes in 2008 and 2009 signaled a significant reduction in that availability, and increased volumes in 2010 and 2011 signaled at least a partial return.

But origination volumes are at best an imprecise gauge of the availability of mortgage capital, as they are also heavily affected by other factors--especially shifts in demand for capital and, particularly in recent years, by alternative forms of extending mortgage credit.

Background

According to the Mortgage Bankers Association's (MBA's) 2010 commercial/multifamily Annual Origination Volume Summation report; origination volumes fell from $516 billion in 2008 to $181 billion in 2009, a 65 percent decrease; to $82 billion in 2009, a drop of 55 percent. In 2010, volumes increased to $119 billion, a 45 percent increase.

There can be little doubt that mortgage credit conditions tightened significantly during 2008 and 2009 before loosening, at least slightly, in 2010.

It's important to note two limitations to the use of originations as a gauge of credit availability, however. First, an origination requires both demand for, and supply of, capital. Demand for mortgages is as much a driver of changes in origination volumes as the supply of capital.

Second, mortgage originations are not the only means of extending mortgage credit. Particularly in recent years, loan extensions, modifications, assumptions and other adjustments to existing loans have served to extend large amounts of mortgage credit--credit that in other environments would likely have resulted in new loan originations.

Supply and demand

Supply of and demand for commercial real estate debt follows the real estate cycle. In times of growth, borrower demand for loans increases--often sharply. As the real estate cycle lifts property performance and values, lenders typically relax underwriting and other terms in an effort to match the market and win business.

When the cycle turns, lenders tighten their terms to reflect the weaker market conditions, and borrowers--less able to pencil out deals in the changed environment--are less likely to seek new financing.

According to the Federal Reserve Board's Senior Loan Officer Opinion Survey on Bank Lending Practices, in 2005 the net percentage of domestic respondents reporting tightened standards for commercial real estate loans (per the Fed's definition, including single-family construction loans) was 23.7 percent; out of a theoretical sample of 100 banks, 24 more banks reported loosening standards than reported tightening.

The Fed survey shows that in 2008 the net percentage of banks tightening standards rose to +87 percent--meaning that out of the 100 theoretical banks, 87 more reported tightening than loosening. Banks clearly responded to the deteriorating market conditions--particularly in the single-family construction markets--by tightening the availability of credit.

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A similar trend is seen in the demand for commercial real estate debt. The net percentage of domestic banks reporting stronger demand for commercial real estate loans (again, including loans for single-family construction) was +24 percent in 2005, meaning that out of the 100 theoretical banks, 24 more reported increased demand than reported decreased demand. …

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