Commercial Loans Blog

Commercial Loans, Primary Locations, and Secondary Locations

Posted by George Blackburne on Wed, Mar 23, 2016

Great_location.jpgLocation is far-far more important to commercial real estate lenders than home loan lenders.  In home loan lending, a borrower merely has to meet the lender's minimum requirements.  Once the borrower satisfies a home loan lender's minimum requirements (loan-to-value ratio, debt ratio, downpayment size, credit score, etc.), the home loan lender approves the deal.  The borrower doesn't get a better interest rate because the property is located in Beverly Hills, as opposed to a dangerous area on the South side of Chicago - home of bad, bad Leroy Brown.

In contrast to minimum requirements, commercial real estate lenders are cherry-pickers.  They  take the most attractive deals available until they have satiated their hunger for commercial mortgage investments.  An example of a high school dance will help to make this concept easier to grasp.

Okay, its the high school dance, and its a mixer.  Everyone arrives without a date.  The girls flock to one side of the gym, and the boys flock to the other.  Rocky Hupson, the handsome quarterback and captain of the football team (playing the role of MetLife in our metaphor), walks over and asks the beautiful Head Cheerleader to dance.  The commercial mortgage rates offered by MetLife, the nation's largest life insurer, are the lowest in the country.  MetLife can pretty much have any commercial loan it wants.

Then Bradley Pitt, the fiercely handsome star running back (playing the role of Prudential Life Insurance Company in our example) asks the second prettiest girl to dance.  And so on through the rest of the 180 life insurance companies.

 

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Life insurance companies always have the lowest interest rates on commercial loans, so they are at the top of the CREF food chain.  They cherrypick the safest deals until they have used up their yearly allocations for commercial mortgage investments.  And that's a lot of dough.  Even though there are only about 180 life companies, they fund the really large commercial loans - deals of $5 million to $500 million.  Altogether life companies fund about 23% of all commercial loans - by dollar volume.

While we're on the subject of yearly allocations, its possible to bring an absolutely perfect commercial loan to a life company late in the year, only to find out that the life company has already used up its yearly allocation of commercial mortgage investments.  Your loan will have to wait until January of the next year to fund!

Okay, now back to the school dance.  Then Matlock Damon, the star middle linebacker (representing JP Morgan's conduit lending division) looks over the lovely ladies.  All of the cheerleaders have already been selected, but there are some lovely, athletic ladies from the girls' track team, so Matlock selects one of them.  Then the remaining 37 players on defense (representing the 38 major conduits) whirl in and charm the lovely ladies.

And so on through (3) the commercial banks; (4) the credit unions; (5) the non-prime lenders; and finally (6) the private / hard money money lenders.  Commercial lending is a pecking order, where commercial lenders, when its their turn, choose the most attractive commercial loans still available, until their demand for commercial loans has been satisfied.

Now we can finally get to the point of today's training lesson:  As the most handome and dashing man at the high school dance, life companies will only make their huge commercial loans on commercial properties located in terrific locations.  These locations are what is known as primary locations.

A primary location, in terms of commercial real estate finance, is one of the most desireable locations in a gateway city in terms of traffic count, accessibility, safety, and affluence of the neighborhood.  In other words, a lot of Lexus'es, Mercedes, and BMW's need to be driving by.  You will rarely find a life company lending in a city of less than 500,000 residents.

A gateway city is defined as a large, generally safe, metropolitan area, featuring at least one major universities and a socially vibrant city center, that is a beehive for commerce, immigration, and job creation. The typical gateway city enjoys a pro football franchise and/or a pro basketball franchise and an MSA containing at least 1,000,000 residents.  

 

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Conduits, on the other hand, will regularly make commercial loans on properties located in secondary locations.  A secondary location is defined as a middle-class, less-commercially-active area in a large city or an affluent, vibrant, and desireable area in a smaller city.  A secondary location is typically a nicer-than-average location, but it is just not an incredible location.  Is there a lot of brass and glass around?  If not, you're not in a primary location.

Example:  The most affluent and desireable location in Fargo, North Dakota - where all the physicians and attorneys congregate to do business - would be considered a secondary location.

"Gee, George, this is all very subjective."  Yup.  That being said, when you find yourself in a primary location in a major city, you'll definitely know it.  

“I shall not today attempt further to define the kinds of material I understand to be embraced within that shorthand description (of "hard-core pornography")… But I know it when I see it…” -- Supreme Court Justice Potter Stewart

Here's a good layman's test:  You'll know you are standing in a primary location when you suddenly feel very, very poor.  Ha-ha!

All other locations in commercial real estate finance are know as tertiary locations.

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Topics: primary location