Credit investors are stepping into a void left by banks and insurance companies and providing debt financing for top-quality hotels in a bet on a post-pandemic recovery, according to a new report from the real estate services firm JLL.
The renewed interest in financing is driving down debt costs for assets like drive-to leisure resorts and trophy or luxury hotels. All-in interest rates for those borrowers have fallen in recent months to the high-3-to-low-4 percentage point range over the London interbank offered rate, according to Kevin Davis, a senior managing director in JLL’s hospitality group. That’s down about 1.5 to 2 percentage points from last summer’s peak.
“There’s a view that things are less risky today than they were previously, and there is a significant amount of capital that’s been raised to take advantage of opportunities in hospitality,” Davis said in an interview. “There is a tremendous amount of demand to finance high-quality assets.”
Still, he said borrowing costs remain 1 to 2 percentage points higher than they were before the start of the pandemic.
COVID pain
Hotels have borne the brunt of the coronavirus-driven shutdown, with occupancy rates remaining low as travelers stay home. This year has seen an uptick in hotels filing for bankruptcy, and an estimated
Hotels in oversaturated markets, as well as those with strong labor unions or unfavorable ground leases aren’t getting as much investor interest, although there are some deals getting done, Davis said. Borrowing costs for out-of-favor assets remain elevated, at a spread of around 700 basis points over Libor. Construction financing is also restricted to only the best projects and best sponsors, given the relative risk of a new project, he said.
Debt funds are doing more deals in part because they’re willing to take on more risk than banks, offering loans for 75 to 80% of the value of the best assets, compared with 55% to 60% for the banks. While banks continue to offer the lowest financing costs, credit funds are are “by far” the most active lenders in the current market, according to JLL. Banks, insurance companies and commercial mortgage-backed securities remain very selective when making loans.
Davis expects debt funds to dominate financing to the hotel industry for the next several years, similar to what happened after the 2008 financial crisis. Banks tend to prefer to lend on at least 12 months of strong cash flow, which many hotels won’t be able to provide until at least next year, he said.
“This will be the first year in a longer-term ramp-up,” Davis said.
JLL’s hotel investment banking group is actively engaged on $1.5 billion in financing for hotels, including acquisitions, refinancing and construction loans, according to the report.
