There are also fears that hosting significant industry relief could be viewed as a “leaflet to the president’s friends” since Donald Trump made his fortune in commercial real estate, said a lobbyist frustrated that that is Problem with policy makers is insufficient.
“Sometimes people forget the depth and breadth of commercial real estate,” said Mike Flood, senior vice president of commercial and multi-family policies for the Mortgage Bankers Association. “What is at risk here is both people’s ability to stay in their homes and people’s ability to take up their jobs. So if there is no incentive, there is much less to fall back on once we do return to normal times. “
A big problem is that no one knows how long the decline in commercial real estate will last. Business travel is not expected to pick up again for at least a year, so hotels are getting hammered. And while office buildings have not yet felt the brunt of the downturn – offices tend to have long leases – that will change as many companies rethink the way they work when working from home becomes the norm.
The number of commercial loans wrapped in securities going into special servicing – the transfer of bad loans to a new manager hired by bondholders to negotiate a payment schedule on their behalf – has increased steadily since March .
And it has become clear that the virus will continue to lower revenues for some time to come, so even those property owners who have been able to pool payments – thanks in part to Congress’s relief efforts that have now expired – may slide.
The loss of paying tenants could trigger a wave of depreciation and eventual foreclosures from shopping malls to apartment buildings. But it’s not just a pocket of wealthy investors hurt by widespread write-offs. 87 percent of public pension funds and 73 percent of private pension funds hold real estate investments.
Borrowers seeking credit relief or considering refinancing are also running into trouble as they lack a clear forecast of future sources of income for their buildings due to the uncertainty caused by the virus.
“Every lender tries to help, regardless of the type of funding, but sooner or later the borrower needs customers,” Flood said.
The damage is already evident in the securities market, where mortgages are wrapped in bonds that are sold to investors who are then repaid through payments on the mortgage.
Every fifth loan bundled in commercial mortgage-backed securities is on special watchlists, on which loan service providers – the companies that collect mortgage payments and pass them on to investors – identify potential barriers to future payments, such as when a major tenant moves out.
Since the crisis has hit some places and industries much harder than others, it is difficult to get a clear picture of the problems in the market – one reason why lobbyists have struggled to convey the urgency to policymakers. Some assets have been wiped out while others are thriving.
Hotels and retailers, which together make up 40 percent of the commercial mortgage-backed securities market, are hardest hit. Months after the ban has been lifted, 1 out of 2 hotel rooms remains unoccupied. City hotels, which have some of the highest operating costs, perform worst with only 38 percent occupancy.
And retail, which was struggling with Covid before ecommerce came along, has accelerated its decline. It’s not just small malls either: the owner of the $ 1.9 billion Mall of America reached an agreement with its specialist service provider in August to avoid foreclosure.
A quarter of all CMBS hotel loans are specially serviced today, compared with just 1.9 percent at the end of 2019. And 18.3 percent of retail customer loans are specially serviced, up from 5 percent at the end of last year.
Multi-family houses, on the other hand, have developed well so far. Industry analysts are keen for signs of additional tenants missing out on rent after the initial economic boom, contained in March’s CARES Act congress of $ 2 trillion, wears off.
Residential property owners are also facing a nationwide eviction ban for non-payment of rent introduced last month by the Centers for Disease Control and Prevention. The contract did not include financing for the rental support. The landlords had to subsidize the tenants’ apartments until December 31st.
“The worst-case scenario is that you’re taking advantage of the bright capital in all of the commercial real estate and potentially creating a liquidity crisis, and frankly a situation where people are being sent out into the streets,” Flood said. The unfunded eviction ban, he said, “puts the risk on the borrower and the lender.”
Meanwhile, property owners trying to ease their credit are struggling, especially in cases where the credit has already been wrapped in a security.
“The difficulty is that both the borrower and the lender must determine the current value of the asset,” said Lisa Pendergast, executive director of the Commercial Real Estate Finance Council, a trade association that represents lenders, investors, and service providers to commercial mortgages.
“Where do you think the value of your property will be in three months, six months, six years?” Said Pendergast. “It depends on.”
Part of the problem is that there weren’t enough commercial property transactions – sales declined 68 percent year over year in the second quarter – to measure how far property values have actually fallen, so buyers and sellers have very different views on it have what a property is worth.
The lack of clarity about the current value of a property is especially important for loans that are broken down and bundled into securities by investors. A bank can provide short-term relief to a borrower and reassess the problem in a matter of months, while a borrower whose loan has been wrapped in a security has to go through a more complex process to get approval from various investors to adjust payments.
Special servicers have to model future payments for the bondholders. This is a difficult task when it is not clear what a building is worth now or if it will be generating income soon.
“This is where the whole thing collapses – without knowing the value of a property,” said Michael Bright, CEO of the Structured Finance Association, a trading group that represents 370 companies involved in securitization. “It’s pretty important input and nobody knows.”
ONE May American Hotel and Lodging Association poll found that only 15 percent of borrowers whose loans had been packaged and sold to investors had received credit relief, compared with 80 percent of bank borrowers.
Imagine a hotel owner whose business was doing well before Covid struck. For example, if the owner’s loan is held by a bank, they can work out a six month deferred payment plan or a longer term loan with the bank to help improve the situation until a vaccine is in place.
However, once the loan has been sold to investors in the securities market, the owner is willing to make the full monthly payments which the service providers then pass on to the investors. He can work with the servicer to defer payments, but investors may hold back depending on the risk they are exposed to.
In the long run, the source of funding doesn’t make much difference – after all, a bank has to write off a property that isn’t recovering. And industry analysts aren’t sure which properties will do this.
“The main question is likely to be structural economic changes or changes in shopping and living behavior,” said Bright.
“I think everyone is trying to understand what a post-Covid world means for commercial real estate,” he said. “Hopefully people will want to travel and gather again soon, but we don’t know for sure yet.”