April Market Rate Update
Each month, the IAACU Small Business Team aims to provide you with insights into the current trends in Commercial Real Estate market rates, which are influenced by movements in the US Treasury yield.
Commercial Real Estate Rate Structure:
Commercial real estate (CRE) often follows a 5:1 Adjustable-Rate Mortgage (ARM) structure, where the loan begins with a fixed rate for the first 5 years before transitioning to an annual adjustment based on the anniversary of funding. This adjustment continues until the loan is paid off or matures.
Rate Calculation:
In determining the rate, financial institutions (FIs) commonly utilize the 5-year US Treasury yield as the pricing index, adding a risk margin during underwriting to establish the final rate for the borrower.
An example of this may be the following:
For example, if you ask your local FI for a commercial loan rate for a building you’d like the purchase, they may give you a rough estimate based on the current 5-year US Treasury yield (e.g., 4%) plus an expected risk margin (e.g., 3.50%). In this scenario, the estimated rate at closing might be around 7.50% (4.00% 5-year US Treasury Yield + 3.50% risk add on).
Rate Projection:
Numerous factors influence whether the 5-year treasury moves up or down, but for simplicity, historical data from the past 60 days is often analyzed to make an educated guess on where rates are heading.
March 1st started with the 5-year Treasury closing at 4.17%. This was a 37-point increase over February 1st rate of 3.80%. April 1st rate was 4.34%, another increase of 27-points from the prior month. This means the typical commercial loan rate since February 1st has increased approximately 64-points, or 0.64%.
Solely looking at this “recent” trajectory, it would not be a surprise to see the current 5-year U.S. Treasury yield, currently at 4.34%, continue to stairstep its way up towards 5.00%. With each increase (or decrease) to this index, the commercial loan rates a borrower will be quoted will move an equal amount up (or down), accordingly.
*Rates from Resource Center | U.S. Department of the Treasury as of April 3, 2024.