What CMBS Delinquency Means for Value-Add and Distressed Buyers

LOS ANGELES—With civil unrest still prevalent across our country, business reopening efforts were foiled by violence and curfews. The overall jobless claims are still staggering, with nearly 2 million filed new claims while the May unemployment rate is 13.3%. Intentions with Beijing persist while Wall Street is making gains from its March lows. Some economists are declaring that the COVID-19 recession is over, but clearly the recovery is only beginning. Is the worst really behind us or has it yet to truly begin?

In April 2020, the CMBS Delinquency Rate registered at 2.29%, but now in May, the CMBS Delinquency Rate logged its largest increase since 2009 at 7.15% (a jump of 481 basis points over the April number). Almost 5% of that number is represented by loans only in the 30-day delinquent bucket. So optimistically speaking, we can hope that roughly 5% will recover in the next few months and only 2.15% will remain in severe distress. Realistically, the numbers could head higher in June considering that about 7.6% of loans by balance missed the May payment.

We’ve recently witnessed some great economic data relative to what we were expecting this week and, historically speaking, the delinquency rate has in fact followed the unemployment rate almost exactly, but how believable is this v-shaped recovery? The ADP jobs number and unemployment rate were below predictions (some economists were predicting as high as 8-10 million job losses and 19-20% unemployment), but that doesn’t mean we’re out of the woods yet. At 40 million unemployment claims over the last 11 weeks, that’s a large amount of furloughed people that have to attempt recovering their former jobs or find new jobs. Stock futures are firing up with a tremendous rally over the past six weeks, but we have a long tail coming. Considering consumer spending from business and seniors, we are expecting considerable bumps in the road over the next 18 months.

Hotel owners seem to be some of the hardest hit with 20% delinquencies right now. These 90-day forbearances will not be enough to get back up to 80% occupancy and decent RevPARs. So come August, hotel loan borrowers will be asking for more time. Some servicers are allowing their borrowers to allocate their FF&E reserves to fund P&I payments during forbearance, but these are of course on a case-by-case basis. A majority of what we’re seeing is 90-day deferral from P&I payments, but must be paid back within 12 months with the greater of 1/12 of what is deferred each month for a year (so it’s not tacked onto the back nor is it forgiven). On the FF&E side, you can withdraw reserves as if you were withdrawing from a 401K to keep your mortgage payment, but it must be paid back within a certain time frame. We are keeping a close eye on special servicing loans as well, noticing the rate rose from 4.39% in April to 6.07% in May. 16.2% of all lodging loans were in special servicing, up from 11.4% in April. In addition, 9.3% of retail loans are with the special servicer, up from about 6% the month prior.

The industrial and office sector delinquencies seem to be only slightly up (with a few borrowers putting in “why not” forbearance requests), but have these string of tragic events been the accelerant and final blow to retail’s inevitable downfall? Simply put, the retail properties that aren’t selling food, toilet paper, or soap seem to be the ones left out in the rain. Brick and mortar retail was already experiencing stress and has now been hit hard as well with 10% delinquencies and more forbearances being sought. Many lower-rated malls and retail stores have been getting crushed, but not everyone is. While some B and C rated malls (e.g. CBL) saw only 15% of rents collected, Simon Property Group actually saw 85% of its rents collected last month (even with its $66M lawsuit against its largest tenant The Gap for non-collected rent).

We’ve had a rough start to 2020 (to say the least), but we can see some light and our summer months will be a true tell of how the economy will shake out moving forward. From our discussions with all our investors over the past few months, smart money seems to be raising / parking capital (while cautiously putting some deals in escrow) for now, but not formally closing any deals until 2020Q4 / 2021Q1.

Viktor Simco is a senior associate at LS capital, a private equity firm in Los Angeles. The views expressed here are the author’s own.​,