Is commercial lending about to boom?

The low point for commercial property is about to end, presenting an opportunity for brokers and investors, say the pair.

Mark Polatkesen (pictured above left), director of Victoria-based brokerage Mortgage Domayne, said unlike residential property, commercial property was valued “almost entirely” based on the economic return the asset could deliver.

“Commercial property generally delivers higher yields than residential, which is why it’s popular with a lot of investors,” Polatkesen said.

“Rising interest rates reduce a commercial property’s yield and therefore make it less valuable. Rising inflation can also reduce an investor’s real return if they don’t have annual CPI-linked rental increases written into the lease agreement.”

Will 2024 bring favourable conditions for commercial lending?

After 12 interest rate increases in just over a year and the major banks predicting one or two more rate rises in the coming months in an effort to curb inflation, Polatkesen said the lull in commercial lending had been expected.

Polatkesen said he viewed the current market as a low point, with inflation and interest rates close to their peaks.

“As a result, both indicators should be more favourable next year, which means commercial property returns should grow,” Polatkesen said.

Will Beardmore-Gray (pictured above right), chair of international property group Knight Frank, said while rising inflation and interest rates had affected capital values, “the tide is likely turn next year”, thanks to forecasted lower interest rates and stronger economic growth.

“The themes we are seeing around the world are fully reflected in Australia, with plenty of cause for optimism in commercial property markets next year and beyond,” Beardmore-Grey said.

“We expect deal momentum to gradually pick up once the Federal Reserve in the United States and Reserve Bank of Australia signal that they have reached the peak of the rate hike cycle as this will help instil greater confidence in the outlook and shift the focus to potential rate cuts in 2024 to 2025.”

Has the tide already turned?

While both Polatkesen and Beardmore-Gray suggest the rise in commercial property will occur once interest rates drop, data from the RBA showed that the tide may have already begun to turn for certain areas of the economy.

Total commercial lending, which encompasses all lending for commercial use, has stayed relatively steady despite the challenges in the economy, increasing 8% year-on-year to May, according to the RBA’s lending data. Others have also commented on the sector’s resilience.

But in recent months, the data suggested a sharp uptick in the SME lending space.

In just one month between March and April, small business lending increased 9.7% while medium-sized business lending jumped over 21.7%, according to the RBA’s lending data.

To put this in perspective, since March 2020, small business commercial lending year-on-year results were -1.2% (2021), -2.5% (2022) and 3.4% (2023) – effectively not growing at all since the pandemic.

Medium-sized businesses fared a little better throughout the pandemic, growing 20.5% between March 2020 and March 2023.

Even so, this means that lending for medium-sized businesses has increased more in one month than it has in three years. 

However, the trend has not been seen across the business landscape with large business lending dropping 13.7% in the month between March and April.

Essentially, this could mean that the boom in SME lending has already begun while larger businesses, which are less nimble, are continuing to struggle with the effects of rising rates and inflation.

Is there opportunity in the commercial space?

Whether it’s growing now or soon, commercial finance may present an opportunity for those willing to venture into the space.

Anticipating the potential boom, many non-bank lenders have already begun gearing up their strategies for commercial lending.

Beardmore-Gray said he believed there were substantial opportunities for well-capitalised commercial real estate developers to secure the best sites for the delivery of new and upgraded space over the year ahead.

“There is a lack of high-quality best-in-class office and commercial space and a need for greener and more environmentally friendly buildings in most major markets to meet more exacting occupier requirements and tighter environmental regulation,” Beardmore-Gray said.

“We also believe there will be strong opportunities in the best located logistics properties, living sector accommodation and some specialist sectors, including healthcare and data centres, which are likely to receive a boost from AI data requirements.”

Polatkesen said that there were also opportunities for brokers and investors willing to diversify –and he happened to fall into both categories.

“I’ve made it a point to diversify as a broker and as an investor into both residential and commercial assets,” Polatkesen said. “A good broker is much more than a loan writer; they’re also an educator.”

“While a broker should never give personal financial advice, they should provide expert guidance to clients about emerging trends in the mortgage market, the property market and the economy.

“Based on that information, brokers should alert clients to the likelihood that commercial property returns will grow from 2024. That said, a broker also needs to take into account each person’s individual financial position and goals, because while commercial property investment may be a great idea for one client, it may not be suitable for another.”

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