Lenders Ramp Up CRE CLO Modifications

Many in CRE have either wondered when the distressed fire sales would come up for grabs or thought that distress won’t appear in a big way. There have been signs that there might be more distress than is obvious and that some is getting masked over. 

New research from Morningstar points shows increased evidence that there is distress surfacing and that collateralized obligation (CLO) lenders are working quickly to head off disaster and the need for absolute write-offs where they can.

As of the second quarter in 2023, “the overall loan modification rate for CRE CLOs was 11.81%, a 532-bp increase from 6.49% in the prior quarter,” the firm wrote. “The most common loan modification flag, according to investor reporting package data, was the nondescript other category, totaling $5.80 billion by loan UPB [unpaid principal balance] and 60.4% of the total modified loan UPB. This is a 61.03% ($4.10 billion) increase from March 2023 when the flag represented 41.1% of the total modified loan UPB.”

The category is large apparently because it is broad and popular, taking into account a number of modifications: increase of the loan balance, a change in interest rate, contractual payment deferrals, maturity date extension, or use allowed application of existing reserves. In other words, a collection of techniques that can keep a loan in ongoing standing rather than on a list of assets to be written down or even off.

The next most common category is the “combination extension loan modification,” which is similar to the first category and that totaled $1.55 billion by UPB and was 20.03% of the total modified loan UPB. The third most common category was maturity date extension and totaled $1.36 billion by UPB and was 17.31% of the total modified loan UPB. 

Together, the three categories totaled 97.74% of the total modified loan UPB.

What drove the higher percentages were loans secured either by multifamily properties or by properties in which the types were listed as unavailable.

“The modification rate for loans secured by multifamily properties rose to 10.58% in June 2023 from 3.10% in March 2023, with a cumulative modified UPB of $5.00 billion,” Morningstar wrote. “Loans secured by a property type that was not available rose to 12.42% from 0.00% over the same period, with a cumulative modified UPB of $1.97 billion. Conversely, the modification rate for loans secured by office properties and retail properties declined QOQ by 1.43% and 1.17%, respectively, to 14.55% and 8.36%, respectively. As of June 2023, the cumulative UPB of modified loans secured by office collateral was $1.26 billion and the cumulative UPB of modified loans secured by retail collateral was $82.55 million.”

There were 3,080 loans with a total $10.07 billion UPB in an extension period by the end of the second quarter. At the end of March 2023, or Q1, 3,255 loans with a total UPB of $10.25 billion were in an extension period.