Five-Year High Reached For Delinquent Office Loans

Mortgage News June 19, 2023

The increasing concern among mortgage bondholders stems from the rising rate of delinquencies in loan repayments and the growing challenge of refinancing loans, exacerbating the existing issue of sparsely occupied office buildings, which has been a persistent problem in American cities. This trend is now becoming more worrisome..

The COVID-19 pandemic and a sluggish economy have given rise to remote work, causing tenants to either cancel or opt not to renew their leases. Consequently, building owners are struggling to make their loan payments. According to a recent report from real estate data firm Trepp, over 4% of office loans bundled into securities were overdue by at least 30 days as of May, marking the highest level since 2018.

The increasing number of loan defaults is causing certain investors to steer clear of commercial mortgage-backed securities that have significant exposure to office buildings. Consequently, this is causing a surge in yields for some CMBS. Moreover, the weakened demand exacerbates the situation for real estate borrowers who had anticipated refinancing nearly a quarter of office building mortgages in the current year.

This year, prominent institutional owners such as Brookfield Corp. and Pacific Investment Management Co. have experienced loan defaults on significant office mortgages. Additionally, a partnership between WeWork Inc. and Rhone Group defaulted on a loan for an office tower in San Francisco.

These instances of loan defaults raise concerns regarding potential missed payments to commercial mortgage bondholders. According to Trepp, delinquencies across all loans in commercial real estate securities saw the largest increase last month in nearly three years.

Kroll Bond Rating Agency announced in May that it is considering downgrading securities associated with 11 commercial mortgage bonds. The potential downgrade stems from the fact that these bonds are partially backed by office properties that are experiencing a decline in strength. If Kroll decides to lower its rating on all the debt, it would be the agency’s most significant action of this kind since July 2020, during the early stages of the pandemic.

CMBS investors are favoring high-quality loans amid an uncertain loan landscape, while the new-issue market has slowed significantly, with debt sales down almost 80% compared to last year. Recent transactions have seen a lower proportion of large office building loans in mortgage pools, and borrowers and underwriters are adapting to address investor concerns. Existing debt that bundles various commercial real estate loans is yielding over 5.5%, marking a decade-high in secondary markets.

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