Distressed Properties Have Reached $63.7B Driven By This Surprising Asset

Since partway into the pandemic, distress has been a, well, distressing topic. People expected it immediately but then values, prices, and rent growth grew at historically high paces. Then came inflation and, eventually, interest rate jumps that put many properties into a questionable ability to gain refinancing.

In a report on May 2023 capital trends, MSCI said that by the end of the first quarter in 2023, distressed property grew to $63.7 billion, with 10% of that added in Q1 as “inflows of newly troubled assets exceeded workouts by more than $5.7b.”

Unsurprisingly, the level of distress varied greatly by property type. However, the category with the largest amount of distress was not office, which has received significant coverage for the difficulty it’s been in, but retail. The latter currently has $22.5 billion in distress, 35% of the entire total, compared to $18.3 billion for office, and hotel taking third place with $13.3 billion.

Still, it’s necessary to look more closely at details to understand the distressed patterns. About 60% of the retail distress was held in malls, “a long-embattled segment,” MSCI said. Then there is the question of trends. Distress in retail “seems to be cooling” while in office it was “picking up steam in the first quarter of the year.” From January through March, an additional $4.1 billion in distressed office value was added to the total, and that was 72% of overall marketing distress addition.

“The combination of falling occupancy, declining property values, and rising interest rates could spell pain for those owners in need of new or additional financing,” the firm wrote. “Analysis by MSCI Real Assets showed that at the start of 2023, more loans were set to mature in the office sector than any other, an indication that more distress is likely on the way.”

All this is current distress. The amount of potential distress is more than double in size. “Stressed assets are experiencing some sort of financial hardship, either at the asset or ownership level, and are indicative of possible future distress,” the report stated. “Should this potential distress be upgraded to full-blown trouble, an increase in distressed asset sales and declining prices would be inevitable.”

As distress varies with property type, it also does with location. For June 2022 through May 2023, Manhattan owned a significant amount — $2.6 billion or 19% of the total distressed transaction activity.