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Transitional Lending in a Transitional Economy

A transitional real estate market is when the market is swinging from a buyer’s market to a seller’s market, or vice-versa. Such a market can have an impact in many areas of the real estate sector, but what does it do to the lending market?

In a buyer’s market, conditions tend to favor buyers. That means the supply of housing exceeds the demand for housing and buyers have the advantage regarding price negotiations. In a seller’s market, the opposite is true. Demand exceeds supply and sellers tend to have the upper hand. Either condition can lead to an onslaught of new mortgages, but the terms of the mortgage may change based on these market conditions to favor either the buyer or the seller. In a transitional market, neither party has an advantage in negotiations, and that can impact the lending market in different ways.

Throughout 2018, the Fed raised interest rates several times. This has created quite a stir in the markets. Rising interest rates tend to mean a slowdown in new mortgages as the cost of lending rises.

What Happens When the Cost of Lending Increases?

When it becomes too expensive for people to buy homes, they tend to rent more. As a result, that often leads to more multifamily real estate development. It can also lead to more single-family rentals under certain conditions. Real estate developers tend to borrow more money to pay for the cost of these developments, and that’s when transitional lending tends to peak. This has been the case in the development market since the foreclosure crisis. More people have opted to rent, for a variety of reasons, and developers have responded.

National Real Estate Investor Online estimated, in 2017, that the transitional lending market was at $50 billion, up from $20 billion in 2011. They also saw no reason for that to slow down and noted that the real estate market indicated more debt rather than equity for the foreseeable future. However, it is now two years later and we have watched interest rates go up several times. This change in Fed policy will likely lead to a slowdown in transitional lending as developers gauge market direction. Should home renters start to buy again, we could see a shift from debt to equity in the housing markets. What will that do to marketplace lending?

Debt or Equity: It’s Important to Know Where The Market is Headed

Home buyers and sellers should understand the current market condition and where the real estate market is headed before they decide to buy, sell, or rent. U.S. News recently published an article on what to expect from the housing market in 2019 and wrote this:

Home sellers  are also seeing growing number of alternatives to placing their home on the market. The last few years have seen growth in the number of iBuyers and similar investment companies that specialize in quick cash purchases of properties to renovate and resell them. Rather than listing their home with a broker, homeowners can sell the house directly. Platforms are debuting where larger companies facilitate the transaction by teaming up with local investors who make the purchase and renovate.

Fix-and-flips are just one market. There are also new housing development and rental markets. Home ownership went from below 63 percent in 2016 to 64.4 percent in the third quarter last year. That’s encouraging, but interest rates rising last year could result in another slight slow down. And in January 2018, new housing starts were at a 10-year high. They went down throughout the year.

In a transitional market, lending may not be at its best, but it’s also not at its worst. That means investors may have to search harder for the right deals, but they should be open to both debt and equity deals as long as they can justify potential returns against the real risks. In other words, keep an open but critical mind. 

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