With the pace of investment sales for commercial property down about 80% since the beginning of the year, real estate investors might find it worthwhile to go on a two-month holiday and hope and pray the investment market and capital markets return to a level of normalcy.

As the president of Silverstein Properties, Larry Silverstein, recently remarked on my television show: “The capital markets’ dislocation in real estate is the worst I have seen in my 55 years in real estate.”

The dislocation of those markets has had a critical effect on the sales of commercial properties in New York City. Few properties are selling at values that were achieved in 2006 and 2007, and sales volume is down at least 15% from its peak.

“Investment sales for properties which were closed or under contract for the first six months amount to $14 billion, which is off from the total volume of $38 billion for first six months of 2007,” the chief operating officer for the New York metro region at Cushman & Wakefield, Joseph Harbert, said.

“Foreign investors, mostly from the Middle East, China, Ireland, Sweden, and Germany, accounted for 40% of the purchasers of property during the first half of the year,” he added.

“No one has any confidence in the investment banks, commercial banks, rating agencies, the U.S. dollar, the Federal Reserve, measurements of inflation, or the national government,” a vice president at Pacific National Bank, Edward Lombardo, said. “The losses generated during a period of irrational expectations are still not completely known. Even if the current estimates are accurate, no one believes them. The word ‘credit’ is based on belief, confidence, faith, and trust, which are all in short supply today.”

The dearth of sales is a direct result of real estate lenders’ cautious attitude in the current environment. “We only deal with established borrowers,” the managing director and president of ING Real Estate Finance (USA) LLC, David Mazujian, said. “There continues to be a flight to quality, for quality sponsors and quality real estate. Lenders continue to be very selective. While there continues to be a general dearth of liquidity, larger loans to the best sponsors continue to be oversubscribed, albeit at 60 to 65% leverage, and spreads generally north of 175 over Libor. Lately we are finding that European institutions are willing to be more aggressive to these types of sponsors.”

Relatively few commercial investment properties were sold during the first six months of the year, but one exception was the sale of office buildings owned by Macklowe Organization, which were aided by seller financing by Deutsche Bank. Macklowe’s General Motors building sold for $2.8 billion, the highest price ever paid for an office building in America. The purchaser was a joint venture of Boston Properties; a partnership managed by Goldman Sachs, U.S. Real Estate Opportunities I L.P., and a Dubai-based private equity firm, Meraas Capital LLC. Boston Properties has a 60% interest in the venture and will manage the property.

The Paramount Group purchased another property owned by Macklowe, 1301 Avenue of the Americas, for $1.45 billion, while the San Francisco-based real estate investment firm Shorenstein Properties is in contract for Macklowe’s office building at 850 Third Ave. and will acquire a 93% interest in 65 E. 55th St., also known as Park Avenue Tower.

On Tuesday, the Carlyle Group; one of the world’s largest private equity firms, Extell Development Company, and RREEF Alternative Investments announced that they have secured the largest construction loan secured in America this year, $613 million, for the development of two luxury residential buildings at Riverside South, on Manhattan’s Upper West Side.

The two buildings, totaling 880,000 square feet on West 62nd and West 63rd streets, between Riverside Boulevard and Freedom Place South, are already under construction and targeted for completion in the first half of 2010. One will be 38 stories and have units for sale and rent, while the other will be 23 stories and entirely rental apartments.

The latest edition of the Price Waterhouse Coopers’ Korpacz Real Estate Investor Survey showed that a plunge of as much as 81% in sales of some types of commercial property, an increase in average overall capitalization rates for many markets, a slip in the rental market, and a decrease in the initial-year market rent change rates accounted for much of the downturn in the quarter.

The report stated that sales since the third quarter of 2007 have been stagnant as a result of a lack of debt financing caused by the credit markets and by uncertainty about how far property prices will fall. Investors are said to be growing increasingly concerned about how much a stalled economy could affect property fundamentals.

“The banking system appears to be in the process of a major reset due to drastically lower profit expectation across the sector,” a regional head of real estate for the Bank of Scotland, John Gunther-Mohr, said. “This reflects a combination of concerns about the stability of the income side, for example, looming credit losses across the commercial real estate sector, on top of the well-publicized residential distress, together with increasing equity requirements to support the business.”

“The last cycle peaked with financial institutions, led by investment banks, originating more and more product with the same capital base on the assumption that ready buyers with liquidity had endless appetite,” Mr. Gunther-Mohr said. “With price-earnings ratios as low as they are across the sector, the market is planting the seeds for recovery. Banking, at least for a few years, will return to a spread business where earnings reflect the difference between the cost of deposits — or wholesale funding — and loan margins. As margins have increased dramatically over the last year, earnings should increase sharply when the cost of wholesale funding moderates. When the realization sinks in that the bank stocks are cheap, share prices should increase. Until this happens, we will be in a tough market for borrowers, as financial institutions will be reluctant to employ capital at margins that may or may not reflect the cost of money.”

“The boom in the commercial real estate lending world started in 2002 and was strong in 2003 to 2005,” Mr. Lombardo, of Pacific National Bank, said. “Banks were liberal in their underwriting; deposit growth and profits were strong. These funds had to be reinvested. Generally, banks were lending at 80% of the value or cost and requiring the borrow to be a full recourse. Relatively inexperienced developers were allowed an opportunity to start their first projects. In 2006, the bank’s underwriting started to tighten, requiring more equity by the investor. By 2007, the banks were still providing construction loans, but they were only looking to do business with established customers. From the second half of 2007 to the present, many lenders that were previously active in construction lending dropped out of the market. The need to increase reserves and a tighter yield curve will restrain the lending of many of these banks for the foreseeable future.”

Today lenders are requiring investors to increase the amount of equity in order to finance a purchase of an asset or to refinance. In most instances, an equity requirement of 30% to 40% is necessary to fund a new project. Financing for residential condominiums is nearly extinct for borrowers. If the subject is financing for a hotel, lenders are requiring between 30% to 50% in equity, especially if the project is planned for the boroughs.

“Conservative underwriting standards dominate the traditional channels of lending,” a senior vice president for capital markets at CB Richard Ellis, Enoch Lawrence, said. “Established borrowers will continue to find efficiently priced commercial loans, and depending on size, many require syndicated or club deals as lenders manage their commercial loan exposure. The less-established borrowers will experience a drop in transaction volume, as many transactions with marginal economics will not find a home. Only the most opportunistic transactions will withstand the underwriting and yield requirements needed to satisfy the rising tide of specialty lending strategies.”

Certain borrowers are now seeking mortgage financing from insurance companies. These companies are offering financing for high-quality, stabilized properties at conservative loan amounts with minuscule to no chance of default. As one senior director of a prominent insurance company said, “Between 12 and 18 months ago, the mantra was ‘take yield for a little more risk.’ Today it is ‘quality before all else.’ Every deal receives scrutiny, including the most conservative ones. No surprises, no mistakes.”

The director added: “Larger deals or bridge-type transactions are extremely difficult to do in this market, and certainly in our shop. Large deals in general seem to have been extremely conservative and syndicated by foreign banks, which seem to have slowed down a lot recently, or club deals by two to four other groups. Clubbing is difficult and oftentimes frowned upon with companies. In our shop, we are seeing enough demand and getting out capital at such a pace that we have no desire to go through the pains and documentation of clubbing a deal.”

The principal of the Troutbrook Company, Marc Freud, said: “The credit crunch has increased the scrutiny of federal regulation of commercial and investment banks. Coupled with an uncertain real estate market, this has created a borrowing marketplace with lender financing available in the second half of the year, albeit at stronger terms.”

“We are not yet seeing lending stability and wide competition from regional banks and dedicated asset category lenders,” he continued. “The key lending thought for the second half of the year is deleveraging. If people want to transact on financing of a deal, coverage ratios are higher, fee structure is higher, and chances are your personal recourse ratio will be higher. The good news is that the acquisition pricing of the real estate, generally speaking, is getting lower. In the medium term, the goal of any developer, when presented with a term sheet on a deal, should be to just get the loan closed. Chances are, if you don’t close that transaction, intuition tells me in a short period of time that same deal may get more expensive, or worse, might not be available.”

As the credit crisis and dislocation of the capital markets enters its 13th month, few industry leaders believe that financing will return to the heyday of a few years ago. No one has a crystal ball; still, many leaders hope that the finance market will ease in nine to 12 months. We can only hope that happens.

Mr. Stoler, a contributing editor of The New York Sun, is a television and radio broadcaster and a senior principal at a real estate investment fund. He can be reached at mstoler@newyorkrealestatetv.com.