THE BRIDGE–TO–NORMAL: A 2023 Antidote to the Capital Markets Paralysis in Commercial Real Estate
As published by Shopping Center Business

By Elliot M. Shirwo
Founder and Principal, BridgeCore Capital, Inc.

As we end the first quarter of 2023, the market paralysis in commercial real estate that began in early 2022 continues.

While there were residual effects of recovery from the pandemic in the second half of 2021, the initial signs of growing inflation were starting to affect the real estate sector. Then the Federal Reserve pushed back in March of 2022 with a 25-basis point hike in the interest rate, then a 50-basis point hike in May and a gauntlet of hikes accruing to 75 basis points in the months of June, July, September and November.

The aggressive approach to curbing inflation was the chief driver of the increases, but other macroeconomic and geopolitical issues, such as energy costs, divisive politics, the war in Ukraine and more, resulted in a virtual real estate market nightmare by the fourth quarter of 2022.

The cost of capital for borrowers and lenders skyrocketed by the end of 2022, curtailing loan payoffs. Sellers were in denial of decreasing values. With widening cap rates, buyers kicked deals down the proverbial road to eke out discounts on acquisitions. These and a host of other market factors caused a hopefully temporary — but who knows how long — paralysis in the entire real estate market.

Today, that paralysis is casting a shining light on a new use for bridge financing: the bridge-to-normal.

A number of borrowers are using what I have termed the bridge-to-normal method, which is an adaptative use of the bridge loan product. It serves as a critical, if not lifesaving tool for commercial real estate investors and their mortgage brokerage advisors. The bridge-to-normal allows them to buy time with short-term loans — i.e., 12 to 18 months — until conventional rates normalize.

There is absolutely no need, nor is it prudent, to lock in a high single digit rate for the next 10 years, when the same investor can secure a bridge loan with a low double-digit rate for the next 12 months, then reassess the market in a state of calm and determine the best strategy for recapitalizing the subject asset.

Today, banks and credit unions are rolling back their capital, following outlays in 2022 with significantly lower returns, the recent run on banks, and regulatory tightening. As well, private debt funds are freezing lending activity due to increased leverage costs and/or warehouse lines being pulled. The last players standing — namely, unlevered bridge lenders — can fill a gaping hole in the capital markets to save and facilitate transaction flow and execution, and to make deals happen quickly and efficiently.

In essence, this is the new normal in commercial real estate, and it will continue until many of the current factors causing the dislocation have been resolved with some degree of sustainability. But the dislocation in commercial real estate doesn’t have to cause paralysis for investors and borrowers. Rather, it can create meaningful opportunities in 2023. Development and redevelopment projects, office repositionings, and value-add properties with significant vacancies, such as retail big and junior boxes, have the potential to provide the most accretive value to opportunistic investors who have had to become opportunistic borrowers as well.

The confluence between dislocation and the instability and uncertainty of the capital markets bodes well for creating a unicorn year in 2023 that has not been experienced since the Great Recession in 2008 and the years immediately thereafter. The unicorn in 2023 is the opportunity for investors to employ the strategic use of bridge-to-normal capital for the purpose of bridging-to-profitability with certainty. When interest rates eventually go down, property values will go up. Today’s market volatility and uncertainty are creating opportunities for investors to capture increased value that is just around the corner.

No one knows how long this window of opportunity will last. But for those investors and borrowers who embrace this real estate cycle as a bridge-to-normal, the sooner paralysis will dissipate, and the antidote will produce its curative effects.