With the steady decline and continued erosion of residential mortgage lending guidelines, the question lingers- will the commercial mortgage market follow?

The answer would appear to be "yes" to the average American seeing the economy screeching to a standstill.   But as Mr. Miagy said in the Karate Kid, "Things are not always as they appear".  

Commercial mortgages are not likely to see the crash that the residential markets have seen.  There are several reasons for this.  

Historically commercial mortgages have been approved with a much higher level of diligence.   Low document loans and stated loans are the exception as opposed to the rule.  The borrowers have had to have much higher credit scores and combined with other factors have demonstrated a much higher likelihood to repay their loans.    This has been proven through the commercial mortgage default rates that were just reported for 2007.   These reported figures show the numbers at only a fraction of the current residential rates and posting at record commercial lows.  

Another reason for the stability in the commercial mortgage market is the fact that these mortgages are secured with income producing properties and even though the current real estate market may be declining, these properties will still produce sufficient cash flow for the owners.    The approval process makes sure that these properties have a sufficient NOI (Net Operating Income) to sustain the property.  

Lastly, the loan to values have been, and will remain, much lower than those allowed in residential real estate.   This allows for absorption of the declining market with equity already invested.   Should the bank have to foreclose on the property, there is the ability to recoup the bulk of the mortgage balance through a sale, thus maintaining investor confidence in making the lower loan to value mortgages associated with commercial lending.  

With the economy slowing to a grinding halt we have and will continue to see a decrease in new commercial construction.   There is currently an excess of vacant commercial space in most US markets due to failing businesses and downsizing of major corporations. This vacancy rate will continue to grow as the US dollar weakens and inflation mounts.   This will most certainly slow the growth of the new commercial construction significantly over the next 24 to 36 months.  

This economic downturn will also open the door for new growth to emerge in commercial refinance applications.    Many businesses will have to utilize the equity that they have built to weather the storm and make improvements to remain competitive.   I am already seeing a consistent increase in the number of business owners that are utilizing the equity in their commercial properties to better position themselves to ride the rough waters. These are folks who have been through this cycle before at least once.

I would love to hear your comments and opinions on this topic.    To get the latest on Maryland Commercial Mortgages, subscribe to my weekly blog or for commercial mortgage questions, you can contact me directly through the email me function of this blog.  

©Copyright 2008 Tom Elder