As the end of the extend-and-pretend era of commercial real estate lending coincides with the meteoric rise of private credit, a growing number of investors are eager to buy debt — and traditional lenders are more willing to offload it.
The combination has let private funds boost their control of the real estate debt markets and grab hold of tangible assets at low cost.
“Folks are looking for ways to get to the dirt, and there are some lenders out there who are sitting on distressed assets, looking for a way to get out,” said Holland & Knight partner Doug Praw, the law firm’s West Coast real estate practice leader. “People have come around to the thesis that if I can pick up a note at a slightly discounted rate, then it may be worth some of the risk, and at least I can get to the property at some point.”
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The number and size of private credit funds have ballooned in recent years.
Historically, a small market of debt buyers limited banks’ ability to offload loans, resulting in significant credit tightening.
But private lending has surged in recent years, with the number and size of funds ballooning. In 2011, there were just 100 private debt funds in the market globally. By the third quarter of 2023, there were approximately 1,080 private debt funds, according to Preqin.
“A lot of groups are in this space now that have taken market share from what used to be direct bank lending in the past,” Acore Capital Managing Director and Head of Eastern Region Originations Eric Ramirez said. “There is that liquidity in the market, whereas 10, 15 years ago, there really wasn’t that outlet outside of more opportunistic types of funds.”
Today, the global CRE debt market is estimated at $11.9T, on par with traditional fixed income, according to PGIM. Private credit funds are scaling rapidly in response, with real estate debt funds’ assets under management expected to grow from approximately $500B in 2024 to $746B in five years.
Among those recently expanding in the private credit space are BlackRock, which announced its acquisition of ElmTree Funds shortly after buying HPS Investment Partners, and Brookfield Asset Management, which is acquiring a majority stake in Angel Oak Cos. Beach Point Capital has also raised $1.2B to deploy into private credit, including for its inaugural dedicated real estate fund.
Banks have spent the past few years examining their books. Now that corrections in real estate values have begun to set in, they are better able to decide when to crack down on the borrowers that fall behind.
That’s as $384B of loans that were previously extended reach maturity this year, with 44%, or $199B, coming from banks. Lenders have already pulled back on providing additional extension options, and foreclosures are filing in.
At the same time, property sales are still below historical averages as a disconnect remains between buyers and sellers, and investors continue to hold out for interest rate cuts. Debt purchases provide a first-come, first-served opportunity, Holland & Knight associate Katelyn DeMartini said
“As the market kind of continues to fluctuate, it’s potentially a really great chance to get into something that might not otherwise be available for some folks from an investment perspective,” DeMartini said.
In New York City, there has been a flurry of note sales tied to distressed loans. The deals have cleared a pathway to asset ownership for the note buyers.
In March, Hakimian Capital acquired a 32-unit Bronx apartment building through bankruptcy after buying the debt on it in 2022. In January, American Exchange Group scooped up Savanna’s 1375 Broadway after buying the $200M loan on the 511K SF office property. Yellowstone Real Estate Investments took over the enormous Maxwell hotel in Midtown East in October, roughly two years after it bought a $170M note on the property.
And just this month, Magna Hospitality Group foreclosed on the Hilton Garden Inn hotel in Midtown for $144M after buying a $25M mezzanine loan tied to the building in June.
The Hilton Garden Inn at 237 W. 54th St. was foreclosed on after its original lender sold the loan.
It is a strategy that Soloviev Group tried at 24 W. 57th St. The developer owns other properties in the neighborhood — including its famed 9 West 57th skyscraper across the street — and saw the property with potential to expand its grip on Billionaires’ Row.
APF Properties had defaulted on the loan following several extensions, and Wells Fargo filed to foreclose on the property. When the bank sought to sell the $60M note on the site, Soloviev bid on the debt but lost to Extell Development, a fellow Billionaires’ Row titan.
Soloviev remained interested and ended up paying $67.2M for the midblock site containing two office buildings. APF had bought the property for $69M in 2006 and attempted to sell it for more than $80M in 2023. It eventually settled the foreclosure suit with Extell.
“We’re very interested and always keeping an eye on properties that are in default,” Soloviev CEO Michael Hershman said.
Purging nonperforming loans has begun to free banks from the shackles of bad debt. That, along with the alleviation of certain regulatory pressures under the new administration, has allowed banks to start lending again.
Financial institutions accounted for 34% of loan closings in the first quarter, up from 22% a year ago, according to a report by CBRE. Historically, banks have been responsible for roughly half of all commercial real estate loans.
Alternative lenders, which eagerly filled the gap that was left by the absence of banks, have been pushed back. After accounting for 48% of originations last year, they accounted for just 19% of closings in the first quarter. Debt fund activity in particular dropped 17% year-over-year, CBRE reported.
But private lenders still see opportunity despite banks’ comeback. Troubled loans are still on the rise, and banks have little desire to take back the keys to wide swaths of property in the way many were forced to during the Great Recession.
“We have the in-house capability to understand, underwrite and manage the risks associated with the underlying asset that we’re lending against,” RXR Chief Strategy Officer and Head of Equity Capital Markets Scott Crowe said. “The traditional, large, bureaucratic institution does not have that. That’s not their business.”
RXR is among the investment giants ramping up private credit platforms. After merging its real estate lending operations with Hudson Realty Capital in 2022, it made a series of hires to its equity capital markets team, including Crowe and industry veteran Steven Schwartz, who became head of real estate credit.
Crowe said that the firm is working with lenders to restructure mortgages into A and B notes, take over management of the property, invest capital and bring the asset back to a healthy cash flow. He called it a more “holistic approach” than acquiring the debt outright. Under the strategy, the lender is more likely to recoup some returns, he said.
Over the past 18 months, RXR has acquired 8M SF of office space in New York, most of which has been “very much off-market and very structured,” Crowe said. All of those deals required negotiating with the senior lender, he added.
“It’s one thing for us to buy a piece of paper at a discount. It’s another thing for us to sit down with a lender and say, ‘Hey, look, we can help fix the problem,’” Crowe said. “That’s really our value.”