After experiencing record-setting activity in 2021, Canada’s commercial property market now faces the prospect of rising interest rates coupled with a level of inflation not seen in the economy in 30 years. What should borrowers expect in 2022 is a question we put to First National’s Jeremy Wedgbury, Senior Vice President, Commercial Mortgages. His answers follow.
Jeremy, how did the market perform in Q1 of 2022?
The ground shifted and the market itself reached a point of inflection, although First National volumes in the quarter were not indicative of the change. In fact, our commercial mortgage portfolio expanded to a record $39.7 billion, up 10% or $3.7 billion from a year ago on new segment origination growth of 13% to $2 billion and 67% growth in renewals which amounted to $283 million. Seasonality typically makes Q1 the weakest quarter of the year and we would consider something around $1.7 billion in originations to be good performance and this was better than good. Our new business pipeline also exited the quarter in great shape.
What propelled First National’s growth in a market that is starting to move in a different direction?
We entered the year with good momentum but a significant new driver was the March introduction of MLI Select, which is a powerful new CMHC program to incent the creation and preservation of affordable housing units. We’ve already received a dozen MLI Select approvals worth almost $500 million and I think we can safely assume that this is going to be a very important and well used incentive all across Canada with a good growth trajectory for First National in future periods. For conventional financing, I think the market was in a wait-and-see mode in the quarter as corporate spreads moved up. We do have an incredibly competitive Conventional program in place and we’re actively lending; it’s just that compared to last year, conventional deals currently are smaller – in the $10 to $20 million range – than they were last year.
During March, the Bank of Canada raised its benchmark overnight rate and did so again with even greater force in April. How is this likely to affect the market?
The central bank has been telegraphing for months that rate increases are likely, but I think the pace of change surprised many people. Doubling the overnight rate in April to 1% was a shock to the system and the Bank of Canada made it clear that more hikes will follow as it strives to tamp down inflation which is running hotter than it has for three decades. This inevitably sets a different tone in negotiations between property buyers and sellers as the former needs lower prices for their investment return calculations to make sense after factoring in higher financing costs and the latter holds out hoping this cycle is short lived. We are in the phase of the cycle when buyers and sellers are feeling each other out and there is bound to be disagreement on valuation.
What’s First National’s stance in this environment?
We are, as always, open for business and have good liquidity across terms and with our Core Conventional, insured, bridge, mezzanine and construction financing options. Our Early Rate Lock is also attracting much more attention as bond markets stabilize. We’re very optimistic that we can help borrowers successfully navigate through this period by putting much greater emphasis on how we can add value to our clients.
What sort of value do you seek to add for customers as they prepare for a rising rate cycle?
Our goal is to empower all clients with insights, strategies and strong advice that will help them to adjust to new realities and effectively manage potential risk and then to follow up by quickly meeting our funding commitments in true First National style. Execution is key. Here I would also stress the fact that we have a broader range of lending products than other lenders – including our highly competitive Core Conventional program – and that means more ways to get deals done quickly. But it all starts with our advisory services. Using our data and experience, we’re able to provide realistic proformas for clients taking into account rising interest-rate scenarios, and inflationary factors for building materials and labour. Tapping into that level of expertise can be extremely valuable to clients given today’s uncertainties. Because we are involved in so many different transactions, First National provides a window on the market that is second to none in Canada.
Are you still open for construction loan business?
Yes we are and we are being mindful in our lending approach. We recently updated what has become our $3 billion construction lending program in recognition of the changing environment with a greater focus on lending to experienced builders. Given the challenges faced in construction, we seek a much higher level of partnership cooperation with clients, based on plenty of advanced planning that allows for well thought-out projections.
When you provided your last market update in the fall of 2021, inflation was about 4%. The most recent readings in March showed inflation of 6.7%. Any predictions on where it’s headed?
Reading the Bank of Canada’s report in April suggests that inflation will remain elevated this year before perhaps declining to 2.5% in the second half of 2023. BoC expects that tightening monetary supply will get the job done, but on the back of that there is always a risk that elevated inflation could become entrenched. This is an ongoing concern and one the construction industry knows only too well with supply chain disruptions and labour shortages driving costs much higher over the past two years. Inflation is why experienced builders turn to us early as they plot their all-in project costs. Sensible proformas are key.
All three levels of government have been vocal about how they intend to shift policies to improve the supply of housing. What do you make of those commitments?
We’re obviously supportive of new housing supply measures and MLI Select is a great case in point. It’s a game-changing product that offers up to 50-year amortizations, substantially discounted insurance premiums and loan to cost/loan to value ratios of up to 95% to get new affordable housing built or sustained. Streamlining zoning approvals and generally accelerating that whole process of building are also welcome because one has to remember that there is a significant gulf between demand and supply. Canada is expected to welcome a record number of newcomers to the country this year and next and finding accommodation is going to be an ongoing challenge. It’s the counterpoint to some of the headwinds associated with inflation and rising rates and should keep those construction cranes operating well beyond this part of the economic cycle.
A key part of your offer relies on people. How are you situated from a talent perspective?
We’ve never been as strong. Our commercial team now numbers over 200, we’ve adopted what we call our Digital by Design approach that sees our people work from home and in-office and we recently reinstated in-person conferences for the first time in two years. Our annual sales conference in Montreal in April was incredibly beneficial as it brought together staff from every one of our commercial offices for four days of learning, and brainstorming, all centered on an approach we call Empowered 360. Our goal is to empower every person and every department in commercial with the tools to grow so that we can in turn empower our clients in new and useful ways. It’s no secret that the financial services industry generally is facing a talent shortage with the sector’s unemployment rate at around 1%. In that context, I feel First National’s people power is a huge differentiator. We’ve also introduced a new program for knowledge sharing within our group with great participation by First National veterans and those quickly rising through the ranks.
Final thoughts?
For those who have been in commercial real estate and commercial lending for decades, a rising rate cycle is not unprecedented, even though it seems like it right now. First National has been around for 34 years so we’ve seen this before and we are ready to lend a guiding hand as well as the capital to make good projects for great borrowers work to meet their requirements.
Planning a commercial property financing in 2022? Please speak to a First National advisor today.