Refinancing Could Be Disaster for Many Loans, Not Just Office

The screws are tightening on CRE loans. For example, multifamily debt originations dropped sharply while CMBS delinquency rates seem to be nearing the beginning of the great slide. And as CRE property values slide, the ability to easily negotiate a refi on a building gets tougher.

Over the past decade, CRE loan origination volumes had trended upwards, according to Trepp. As that is no longer the case, the question becomes “what proportion of the maturing loan market, both in aggregate and in specific markets, could face refinancing challenges in environments where the prevailing interest rate is higher than the loan coupon.”

To get closer to an answer, Trepp performed an analysis on maturing loans that by 2024 could land with a debt service coverage ratio (DSCR) based on net cash flow (NCF) of less than 1.25 times (a common risk management threshold), assuming loan coupon escalations.

Trepp looked at data including “currently outstanding, non-defeased commercial mortgage-backed securities (CMBS), Freddie Mac, and Fannie Mae loans that are set to mature by the end of 2024.” The data included outstanding loans that are supposed to mature by the end of 2024. To make calculations easier to manage, they only considered fixed-rate loans backed by a single property. Each loan had to have a net cash flow available, so it was possible to calculate a DSCR. And then they eliminated any loan with an NCF that would create a DSCR of more than 8.0 times at a 5.5% interest-only rate “to eliminate anomalies in the data analysis. The result was about $60 billion in loans, across 3,657 loans. Of the total amount in loans, there was $20.6 billion in multifamily, $17.2 billion in retail, $12.4 billion in office, and $4.8 billion in lodging.

The researchers checked interest levels from 5.5% to 7.5%, calculating the weighted DSCR at each stage, and put together tables showing effects overall and then by large metropolitan statistical areas, by major property type, and then by property type and MSAs.

Overall, 27.9% of properties would have a DSCR under 1.25 times. At 6.5%, more than a third (35.6%) would be in the DSCR danger zone. At 7.5% loan rates, it would be 44%.

Further examples are only at a 5.5% interest rate.

By location, Boston-Cambridge-Newton MA,NH was in by far the worst shape, with 43.4% of the properties in trouble. Houston-The Woodlands-Sugarland, TX came in at 37.1%, while Washington-Arlington-Alexandria, DC-VA-MD-WV was at 30.3%.

By property type, the worst was not office, of which 15.7% would be under the 1.25 metric, but lodging with 31.0% and retail, at 17.0%.

Multifamily was worst in Washington-Arlington-Alexandria, DC-VA-MD-WV, where 43.7% would have a DSCR under 1.25. Second worst, 28.9% for New York-Newark-Jersey City, NY-NJ-PA.

For retail, Syracuse, NY was the worst example at 100%. Second, at 62.7%, was Boston-Cambridge-Newton, MA-NH.

Topping office with 77.2% was Denver-Aurora-Lakewood, CO; second was Houston-The Woodlands-Sugar Land, TX at 61.7%.

As for lodging, San Francisco-Oakland-Hayward, CA had 89.0% and Houston-The Woodlands-Sugar Land, TX at 87.6%.

Given the assumptions and simplifications, some of these figures could conceivably get worse even without a higher interest rate than 5.5%.