Reay says that one of the strategies that lenders have been pursuing—delaying foreclosure through forbearance agreements—doesn't seem to be working. "In just the last few weeks, I'm sensing a sentiment from the lenders that this delaying tactic is not working and all they are doing is prolonging the agony," Reay says.

Lenders are realizing that they have to do something, that they can't just keep on ignoring the problem, Reay adds, so that will ultimately bring more assets to the market. But foreclosure is a protracted, often expensive process for the lenders, so many lenders may turn to selling loans rather than foreclosing in order to sell hotels. "The market right now seems to be in distressed loans and selling to loan-to-own buyers," Reay says. "That is where we think you are going to see a lot more activity."

The Atlas president notes that lenders have taken a while to start coming around to the idea of selling the loans. "Before, they didn't want to sell at a big discount, but when they do their analysis now, it works out better for them to take the discount now than to go through the whole foreclosure process. They're ahead of the game by selling the loan today," he says.

The Atlas report shows that the 406 hotels either in default or foreclosure included 327 in default and 79 in foreclosure. Of the 79 that have been foreclosed on only seven, or 9%, have been resold by the lenders.

The largest hotel to be foreclosed on in California thus far is the 469-room Marriott Hotel Downtown Los Angeles, which was recently sold to new investors for a reported $63 million. Other high-profile California hotels that have fallen into trouble include the foreclosed St. Regis Monarch Beach Resort in Dana Point, the Four Seasons in San Francisco and the W Hotel in San Diego—the latter two going into default but not foreclosure. The St. Regis recently sold out of foreclosure for $235 million, the Four Seasons avoided foreclosure with a $35 million capital injection from a new financial partner and the W Hotel remains in receivership.

The W Hotel was financed by a CMBS loan, and the Atlas report notes that CMBS loans accounted for only 2.5% of the hotels that have been foreclosed, compared with the 8.5% of all hotels in California that are financed with CMBS money. "Special servicers of CMBS loans continue to work on loan modifications or opt to sell the loans rather than foreclose," Reay says. He says that most of the hotels in California that are not financed via CMBS are financed by community banks and SBA loans, with a smattering of life insurance companies and pension funds.

With hotel revenues still weak and the wave of defaults rising, one big question is when the distress will tail off. Reay estimates that working through the distress will take at least three years and possibly up to five, "just because of the sheer volume of deals that have to move through the process." Says the Atlas president, "It's unprecedented."