Currently, there are no multifamily CMBS properties in Orlando that are in the early stages of distress (30 to 60 days), but there are 14 properties representing close to $200 million beyond that level, with eight already in foreclosure or REO. Investors' appetites have been strong for distressed assets, and many investors remained convinced that the long-term outlook for the market is positive and the discount pricing available on multifamily properties will not last long.

With Orlando's multifamily vacancy rate projected to decline and effective rents projected to increase, the flow of multifamily assets into distress should slow considerably. But those that reach distressed levels will be assets with significant operational challenges that will force foreclosure or REO.

Retail Oversupply

Orlando's retail sector is rebounding significantly slower than the multifamily sector. Retail vacancy is projected to decline by just 10 bps by year's end as the sector continues to negotiate an overhang of supply built during the boom and tepid demand from local retailers. Despite no new construction, the market wide vacancy rate dropped 10 basis points in the first quarter to 10.8%. The market remains in recovery, however, as net absorption of 448,000 square feet in the past year lowered vacancy 30 bps.

The aforementioned job gains improved the performance of convenience- oriented retailers that occupy strip centers along well-traveled commuter routes, resulting in net absorption of 255,000 square feet. Strip centers in Orlando recorded 39,000 square feet of net absorption in the first quarter, pushing down the vacancy rate 50 bps to 11.8%. An additional 180,000 square feet of space was occupied in the past 12 months.

Additionally, store closures totaled 2.7 million square feet in the past year, down from 4.7 million square feet in the preceding 12 months, but substantial numbers of new tenants have not yet emerged. Retailers such as the Aldi grocery chain have opened new stores and are scouting locations, but many others remain cautious regarding expansion, a stance that will limit near-term vacancy improvement. As a result, extremely low completions, not a robust recovery in demand, will contribute most to the projected decline in Orlando vacancy this year. Limited completions will persist beyond 2011 as housing starts remain low and many national retailers scale back footprints.

The tepid improvement in retail fundamentals has resulted in a greater degree of distress in the sector, with more than 40 properties at least 30 days delinquent. Additionally, as demand remains weak and asking rents barely budging from their lows, additional properties are projected to enter the distressed pipeline in the coming months. A majority of distressed properties have already reached foreclosure, with 18 retail properties representing nearly $150 million in loan balances in foreclosure or already in REO. This number is poised to increase substantially, as an additional 16 retail properties, representing roughly $130 million in loan balances, are now more than 90 days delinquent.

Office Buildings Face Biggest Hurdles

Although the Orlando office market is projected to see its first annual increase in occupancy in several years, the sector is dealing with a significant number of distressed assets. After jumping 90 bps in 2010, the vacancy rate will decline 60 bps by year's end to 16.5%, sparked by job growth and minimal new construction. Positive net absorption will total 323,000 square feet, marking the first time in five years the city has recorded positive net absorption. In addition, new stock remains a minimal threat, since only 175,000 square feet of office space will come on line in 2011 and none was delivered last year.

It should be noted that the projected rise in demand and ensuing reduction in vacancy depend upon renewed vigor in the class B and C sectors. A substantial opportunity for improvement exists in lower-tier properties, where vacancy surged to roughly 19% last year, 400 bps more than the class A rate. A sizable decline in B and C vacancies could occur in 2011 as conditions improve for the creation of small businesses, which oft en occupy lower-cost, lower-quality office space.

Unfortunately for local owners seeking to capitalize on these fundamental gains, rent growth will lag improvements by several quarters. Asking rents will rise only 0.5% to $21.15 per square foot, while effective rents will increase 1% to $16.84 per foot by year's end. More than 30 office buildings in the metro area are currently in a state of distress, representing loan balances of approximately $300 million. While this represents a very small percentage of the total office market in Orlando, their impact on values and cap rates has been substantial. Similar to other property types, office properties in distress have quickly made their way to foreclosure and then REO and have been marketed at steep discounts to investors. With numerous assets currently more than 90 days delinquent, the pipeline of REO assets in the Orlando area will increase throughout 2011. This should continue to keep values down, even as fundamentals slowly recover. As these distressed assets disappear from the market and fundamentals demonstrate substantial improvement by 2012, valuations should increase.

GlobeSt.com News Hub is your link to relevant real estate and business stories from other local, regional and national publications.