Time To Take The Fed’s Warning Seriously: CMBS Has “Greatest Ever Monthly Delinquency Increase”

With three UK-based property funds, among them Standard Life, Aviva and M&G, all “freezing” assets in the past 2 days and suspending redemptions over fears of a swoon in UK housing prices, spreading panic shockwaves around the globe that the Brexit dominoes have come home to roost (to mix and match metaphors), it may not be a bad time time to jump across the Atlantic and look at US real-estate and in particular, commercial properties. As CMBS specialist Trepp wrote today in its weekly TreppWire commentary, the “Trepp CMBS delinquency rate moved noticeably higher in June, as the rate was pushed up by loans that reached their maturity date but were not paid off.” It was the fourth straight month that the rate has crept higher following two large decreases in January and February. The delinquency rate for US commercial real estate loans in CMBS is now 4.60%, an increase of 25 basis points from April. 

This is in line with recent warnings from the Fed which just two weeks ago cautioned not only about another stock bubble when on June 21 it said that “forward price-to-earnings ratios for equities have increased to a level well above their median of the past three decades” but again warned that commercial real estate remains the most troubled sector: “valuation pressures have remained notable in the commercial real estate sector, to which some small banks have substantial exposures.” This includes not just bricks and mortar malls, which are losing bankrupt retail tenants by the hour, but also the collapse in the shale sector.  It also includes a sudden spike in vacant office space.

Over the weekend, the Fed’s warning was validated not just by Trepp, but also by Morgan Stanley, whose Richard Hill looked at the latest CMBS 2.0 remittance reports and observed that in June, “delinquent loans rose by $142MM, including a potential reps breach.” As Hill puts it, “this delinquency increase was the greatest ever.” The silver lining: so too was the decline in specially serviced and watchlist loans, as near insolvent loans rolled off to delinquent status.

Here is the key highlight from MS’ summary of newly delinquent loans:

15 loans totaling $221MM became newly delinquent in June. In total, 71 loans with a balance of $760.6MM were delinquent in June, resulting in a delinquency rate of 32bp. The $142MM month-over-month increase in the volume of delinquent loans was the greatest ever – it eclipses the $116MM increase in March 2016 and compares to an average monthly increase of $40.7MM.

Some other observations on the state of CMBS 2.0:

  • Specially serviced: There were four loans totaling $43.3MM that were newly transferred to ‘specially serviced’ this month, but the volume of loans declined by the most ever to $1B, resulting in a specially serviced rate of 42bp. There are currently 13 loans totaling $206MM that are delinquent but not specially serviced, including the largest loan to become newly delinquent this month. Looking forward, we expect the two CMBS 2.0 loans totaling $293MM to be imminently transferred to special servicing, given their exposure to JQ Hammons Hotels, which filed for bankruptcy on Sunday.
  • Watchlist: 206 loans totaling $2B were added to the watchlist in June, but the volume of loans declined to $17.5B, resulting in a watchlist rate of 7.37%. The month-over-month decline in balance of specially serviced loans was the greatest ever and compares to a 12-month average increase of $580MM. However, the outstanding balance remains higher than what was observed in February 2016.
  • Appraisal reductions: 21 loans totaling $161MM realized Apprisal Reduction Amounts (ARA) this month. 10 of these loans totaling $62.1M were first-time appraisal reductions while 11 totaling $99.3M were updated appraisals. Seven of the ten loans with first-time ARAs are secured by properties located in ‘oil boom’ regions.
  • Prepayments: 29 loans totaling $456MM paid off in June and, in total, 424 loans with a balance of $9.2B have now been paid off. The largest pay-off this month was the $85MM loan secured by the Keystone Marquee Office Portfolio (DBUBS 2011-LC2A) at its maturity date.
  • Defeasance: 22 loans with a balance of $345.5MM were defeased in June. In total, 291 loans with a balance of $5.8B have now been defeased, of which 213 loans totaling $3.4B remain outstanding. The largest loan to defease this month was the $1655MM loan secured by One South Wacker Drive (WFRBS 2013-C11 WFRBS 2013-C12), which is scheduled to mature on 1/1/2018

So is it time to start worrying about US commercial real estate? Well, with massive retail and shale bankruptcies, vacant malls around the nation, and rapidly evacuating offices, absolutely. Only in this day and age worrying means buying as much risk assets as one can afford, because the worse things are the greater the likelihood of an imminent bailout: of even a 1% correction in stocks by central banks. Case in point: frontrunning.


And while we have been joking for the past 7 years that algos will push the S&P to +? in case World War III breaks out (on 1 offerless contract), this is looking increasingly more likely with every passing day. And now that Hillary is assured of being the next president, it just may happen in the not too distant future.

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