How to make the most of life insurance debt

Economies change, cycles change and what a difference six months can make putting that into context. After a 2021 banner, most life insurance lenders saw their commercial mortgage allocations increased in 2022. The relatively favorable macro rate environment at the start of the year indicated optimistic conditions for lenders. commercial lenders even as the Federal Reserve promised a measured return to rate hikes to offset inflationary pressures from the post-COVID economic recovery. The conditions changed at the end of February.

The disruption of the conflict in Ukraine has been the final straw in a system that is still dealing with the effects of inflation, supply chain disruption and intermittent lockdowns. The subsequent turmoil in global energy markets, supply chain disruption and the resulting hyper-rise in inflation also led to a dislocation in the corporate bond market. These factors challenged market fundamentals for CREs and, in turn, slowed the pace of commercial lending.

Let’s be clear. Life insurance company lenders are not afraid of commercial mortgages. Although their broad allocation targets remain, life insurance company lenders are becoming more disciplined. So expect the search for quality assets and experienced sponsorship to result in a slower pace in the second half. They may not achieve their goals, but remain active. Debt is becoming more expensive for borrowers and underwriting is becoming more risk averse. A clear sign of market disruption has been the wide range of prices on individual transactions, with lenders considering the nuances of their specific portfolios, risk tolerance and performance goals. Rates are rising across the board as spreads rise, reflecting rising Treasury yields.

As a result of these factors, originations are down overall, with borrowers recalibrating for new investments and lenders becoming more selective, even in working classes like industrials and multifamily. Office and hotel assets were already struggling to return to pre-pandemic levels and will continue to struggle to find sources of lending without paying the price of rate volatility and performance risk in 2022. Trade Retail appears to be a tale of two asset classes, with the essential -anchored centers continuing to outperform traditional mall retail space. Overall, rate volatility had a significant impact on hedging costs, with initial costs becoming very high compared to the start of 2022.

Life insurance company benefit

There are, however, a few positives. Life insurance companies always offer a premium capital solution and what can still be considered the most attractive rates for qualified borrowers. In today’s market, life insurance companies that have their own balance sheets benefit from higher quality transactions with less leverage. It’s a plus for them and it motivates them to actively pursue new creations, albeit from a smaller pool of options. Locking in rates at origination is even more attractive in the current cycle and should be prioritized by borrowers.

Additionally, the current inflationary climate has encouraged life insurance company lenders to become more enthusiastic about variable rate short to medium term loans as these lenders seek to hedge against inflation and increase their short-term returns. And while the cost of fixed-rate loans for high-quality assets has returned to what can be considered generational rate norms after experiencing years of generational lows, these are still reasonable rates in this historical context.

So, now that we’re in a new cycle, there are several ways to get the most out of life insurance company debt. Life insurance companies always offer their best rates to low leverage borrowers. This allows lenders to reward borrowers for putting their skin in the game and finance with confidence at attractive rates. It should also be encouraging for borrowers who refinance their existing debt in the coming months and capture the appreciated value. Cashing in at the right point of leverage is always achievable. Another important consideration is the ability to lock in your rate at origination, a competitive advantage for life insurance companies. Locking in the rate at origin alleviates volatility issues, as there is a good chance that we will see continued rate increases through the end of 2022 and into 2023. As companies life insurance are becoming more selective about placing long-term fixed rate loans, opportunities to obtain short-term and long-term loans medium-term financing through life insurance companies at rates and attractive conditions is increasing. These lenders still offer what can be considered a premium solution for commercial real estate loans.

Mark Ritchie is Director, Portico.


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John A. Bogar