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The cost of doing business in a rising interest rate environment

James Kelder, Green Finance Group’s specialist commercial property finance broker shares his personal insights into the current state of the market, and more specifically how the current upward interest rate cycle is impacting broader bank policy and subsequent funding availability for commercial property and development projects.

Q. How has the appetite of the top-tier lenders changed over the past 6-months? And how is that reflected in their lending policy? (LVR, ICR, Geographical/Asset Class Appetite)

A: The biggest change in appetite has been driven by the rising cost of funds and its effect on the Interest Coverage Ratios and overall serviceability. Recently, I’ve observed some banks reducing their coverage ratios, allowing them to continue lending at traditional LVRs. Overall appetite for certain asset classes and geographical locations remains varied across the banks but I’ve not yet observed any major modifications.

Q. Are any areas of the market or asset classes proving particularly difficult to obtain funding for?

A:

• Tighter-yielding assets can make it difficult to meet metrics if you don’t have a substantial cash contribution
• Partially tenanted assets, low WALE assets can be problematic in meeting bank assessment hurdles and require lenders to up the risk curve
• Development finance has been more challenging with increased funding and construction costs resulting in higher project equity requirements
• NDIS Assets – I haven’t observed any major banks adopt a consistent approach to this emerging asset classInterestingly, for developments I’m seeing project-related site values coming back less than “as is” values indicating that land values or construction costs need to reduce to make sites stack up for developers

Q. Will the role of private lenders change as we continue this upward Interest rate cycle?

A: Private lending is more suitable for value-add projects looking to benefit from increased gearing against end values. Banks are reducing coverage ratios, so I won’t see this type of lending for passive hold investors. Non-bank lending may assist some commercial property borrowers if their asset values decline, and they want to maintain interest rates. If construction costs continue to rise, lower presale requirements will also make private lending attractive, allowing developers to recoup elevated costs when selling on project completion. 

Q. What are lenders saying about construction costs? Are they pricing further escalation into credit applications?

A: Banks are still scrutinising the builders of projects and the financial means of sponsors to complete projects in case of cost and time overruns while also adopting higher-than-traditional contingencies in place for overruns.

Q. Are you recommending your clients fix their rates?

A: I don’t recommend fixing rates unless clients want certainty around repayments and/or are hedging against major lease expiry. In my opinion, the premium for longer-term money compared to current floating rates makes it quite unattractive. Recently, upon reviewing hedging strategies, capped rates or blended capital structure has provided a good combination of stability and overall cost of funding. 

If you would like a more specific of competitive funding options in relation to your own project please reach out.

The information provided in this article is on the understanding that it is for illustrative and discussion purposes only. Whilst all care and attention is taken in its preparation any party seeking to rely on its content or otherwise should make their own enquiries and research to ensure its relevance to your specific personal and business requirements and circumstances.  

Green Finance Group Pty Ltd ACN 145 035 221 is authorised under Loan Market Pty Ltd Australian Credit Licence 390222