JackChat June 2025

While no one can really speak about Tariffs without the risk of the conversation going political, IMHO the leader of the free world either doesn’t know or doesn’t care that Tariffs will become a driver of inflation. Additionally, his immigration policy could also be considered inflationary. My concerns aside, “inflation squared” is the pressure point that, yet again, underscores that my view is that the 10 year Treasury rate is not coming down anytime soon. Note to file: we price fixed rate loans over treasuries.

Wishing and hoping is not an investment thesis that stands the test of time. I wonder aloud if these (hoping) folks really believe interest rates are coming down or they have no choice but to hope that rates indeed come down. My view is that so long as sponsors are praying to the gods of wishing and hoping, we as an industry are not being creative or innovative. As the self-proclaimed “old guy in the room,” let me remind you that back in 1981 (my rookie season) that 10 year treasuries were 16-17%, Prime (short term rates) was 21%, and I was stuck converting an apartment building in Rockford, Illinois to condominiums where unemployment was 22%+! Of course, in those days cap rates were 10% and development yields on cost were 13%, but we had a prolonged period of negative leverage. I was in my 15^th season before interest rates FELL below 10%! How in the world did we survive? Among simple perseverance, and stable math, we innovated.

We separated the land from the building. We used wrap-around mortgages. Though not comparable to landing a man on the moon, it was simply two examples of financial innovation in the commercial real estate finance industry. What do we have to show for innovation since the lost Covid years? The CMBS industry decided to meet the demand from borrowers for 5 year loans. For those unaware, CMBS historically was largely a 10-year term product (that rarely had a maturity default). In January, at CREFC, one of the talking points was that 5-year multifamily CMBS product was experiencing 13% maturity defaults! Yes people, respectfully, the lending community can and should be the “adult in the room” and hold the line rather than “meet the borrowers” wish list.

At the risk of repeating myself, Roger Lowenstein’s book, When Genius Failed, talked about the importance of matching the duration of one’s liabilities with the duration of their assets. I posit that commercial real estate is a long-term asset that the financial markets somehow manipulated everyone’s belief that it’s evolved into a trading asset.

During the 1960’s-1980’s, generational wealth was created by building/buying real estate assets, holding them long term, working those assets through a cogent business plan, financing and refinancing them with amortizing loans. Sponsors worked hard to create value by watching expenses, growing rental income, and paying down debt through the cashflow available for debt service. THIS TOOK TIME. Years. Decades. And, wealth was transferred generationally, largely tax free, with the added benefit of a basis step up.

By comparison, over our last 10-15 years folks had a fix and flip mentality where they bought, “hung around the hoop,” watched interest rates and cap rates drop, and they sold at a profit. When attempting to repeat, folks not only borrowed shorter and shorter durations; they borrowed floating rate to avoid the prepayment penalties that generally come with borrowing long term at a fixed rate. Rates spiked and now sponsors find themselves having paid “too much” for an asset (because they could afford more debt at lower rates) with debt they cannot replace at the same terms and conditions in the current environment. Year three hit, and now they cannot get out. Loans come due, and the nominally improved cashflow available for debt service simply can’t carry the existing (or future) debt on the property. End result, the same asset needs more equity to augment less debt affordable. As equity is more expensive than debt, what one can now pay for the same asset, all things being equal, is less due to a higher weighted average cost of capital. Under the thesis that an asset is worth what someone will pay for it, folks lost their way because they confused price with value.

We as an industry did this to ourselves. We made matters worse by populating the industry with sponsors who worked for the acquisition/development/sales fee and moved on to the next deal, not really caring about their investors’ position in the asset (and whether the business plan would work). Oh my, no new deals mean no new fees and their business/revenue model no longer works. We need to recognize it, own it, pay the price and move on.

If 10 year Treasuries are here to stay, say at 4%, then lenders will compete on spread. A 200-basis point spread (line of scrimmage) will compress to 150-175 bp above the treasury rate, at best. So, a mortgage will be available at best at 5.5%-5.75% +/-. If we end our fantasy that a 3% Treasury will bail us out, we can start fighting to persevere, work an asset, hold it longer than 30 months, raise more equity (that has longer duration), innovate. Let’s create financial products that make sense in terms of what the industry needs rather than what the (desperate) borrower wants.

It’s 2025. I get that wishing and hoping was all many folks had. They may have meant well but they didn’t have a better answer or evolution to a business model that no longer works in the current environment.

Other thoughts:

• CMBS is back. Banks are Back. LifeCos never left and their spreads are dropping.
• Office loans are no longer taboo.
• Basis matters. So too does NOT financing TILCs. If/when the lending community stops funding TILCs, developers will stop offering to pay for tenant improvements. Tenants will then stop asking for their version of the Taj Mahal, or they will pay for it themselves. If/when the tenant pays for their tenant improvements themselves, they will stick to their buildings longer. A sticky customer is a good customer. (Note to the lending community: we have a say here! See above.)
• I am enjoying using ChatGPT. AI must indeed have become pervasive.
• The ratio of 25-64 year-olds to those that are 65+ is going down (without immigration). An aging population is inflationary. This is happening across the globe. So, where will immigrants come from that can support our aging population, so productivity goes up instead of consumer spending?
• I have some smart friends who are fans of the current president. They share the sentiment that we “need” the pain that tariffs cause. Whether we do or we don’t, some other smart friends point out that the sequencing might be a bigger issue. Tariffs? We also need deregulation, coherent DOGE, a marketplace that is conducive to M+A activity, animal spirits brought back to small businesses, and a good policy for affordable housing. The animosity towards China, the blatant hostility for Israel and populist disregarding of Hamas (the pawns of Iran who were empowered by Obama’s nuclear deal and supported through the Biden and Harris years) who IS committed to the removal of Israel and the Jewish population across the globe (that literally is the definition of a plan for genocide), climate change, are additional ingredients stirring the global pot, the derivative economies, and our industry. On either side of the aisle, we can all agree there are a lot of threats to our economy and industry that make borrowing short term with floating debt on commercial real estate a bad strategy for the next few years. Unless you have more than hope that interest rates will drop.
• A ton of multifamily was developed and delivered in the last 3-4 years. It has all been absorbed. We obviously need more. While principal and interest payments have gone up more than 100% for house dwellers, multifamily rents have only gone up 25%! The rent versus buy conversation/debate really has changed due to a new set of facts.
• In a concession-driven marketplace, what is market rent?
• Foundations and endowments have pulled back. In fact, finding LP investors is not easy these days. They seem to have pulled back whether they are foundations, endowments, or any other previous LP investor type.

I would like to see those who believe they can create long term asset value in commercial real estate step to the front of the line and get funded. There are some great opportunities out in the marketplace; we need the noise to die down. Insanity is doing the same thing over and over again and expecting different results.

— Jack