Thursday, December 22, 2011

CRE Market Update

CRE is still weighed down by excess inventory (malinvestment) and maturing debt. The refinancing issue is the probably the greatest problem as banks are not willing to lend on the easy loan terms which initially financed many of these projects. Thus as these loans mature, either the owners must come up with more capital or the bank must reduce the loan or foreclose.

It seems that CRE prices have found bottom, but it depends on the type of property. The overall trend improved in the MIT/Moody’s price index latest data, showing a rising trend from April 2011 through August 2011:

To put a spin on things, apartments are still improving, retail is mixed, office is flat, and industrial is declining.

Almost all reports are saying that 2012 will be a tough slog for CRE. For example, both Deloitte and PricewaterhouseCooper were projecting “ CRE fundamentals are expected to navigate a slow and uneven path to recovery that will be heavily influenced by evolving U.S. and global economic conditions.” They project modest GDP gains in 2012. We are projecting flat-to-declining GDP in 2012 which would result in a more negative impact on CRE.

Any chart you look at is still miserable as compared to the peak in 2008 when values started to collapse. Sales transactions are still only about one-half of what it was at the peak:

The other thing is default rates. This chart from CoreLogic shows the rate of “distressed” properties for CRE in the top 10 statistical areas:

There is a vast improvement since the peak in September, 2008, but it is still high and the decline has more or less flattened out since the beginning of 2011. The CMBS market has been improving over the past four months according to Fitch and Trepp.

What these data do not measure is the rate of delinquencies for the B Class and less properties. These are the loans that plague most local and regional banks who finance small business enterprises (which hire one-half of America’s workforce). These numbers too seem to be improving; if we look at data of write-offs by these banks (chart below), the level has declined, similar to the trend shown in the above chart:

Continued improvement is a relative thing. In the market that I am familiar with, Los Angeles, CRE is still in the doldrums, tenants are hard to come by, and rents are not improving. Most of the improvements nationally are in A Class properties in large MSAs. In general, except for areas like NYC and Washington, D.C., rents aren’t improving that much and values remain depressed. That scenario is unlikely to change in 2012.

One thing driving this is debt. There is still a huge amount of CRE debt that needs to be refinanced—it doesn’t peak until 2013:

And delinquency rates are still high:

The good news is that this debt is being “processed” through the system and deleveraging is occurring, albeit very slowly. The government did much harm in the beginning of this crisis by not requiring banks to mark-to-market, thus dragging out the necessary deleveraging process (write-downs and foreclosures).

From Jeff Harding at The Daily Capitalist

Wednesday, December 7, 2011

CMBS Modification Trends

Modifications will remain a key workout method for troubled CMBS loans amid an increasingly challenging lending environment, according to a new report from Citi.

Special servicers still preferred modifications over liquidations, even as some servicers seemed to be shifting to an aggressive liquidations strategy late last year. Softening CRE lending in 2H11 and still-challenging fundamentals in some sectors likely rendered liquidations relatively less appealing in such cases, according to the Citi analysts.

Since the beginning of the year, nearly US$10bn of loans was modified, maintaining a trend that started in late 2009. However, compared to 2010, the number and volume of modifications somewhat decelerated later this year. The elevated 2010 mod level is partially due to the significant impact of the GGP modifications, executed late last year.

The Citi analysts suggest that servicers will likely provide shorter extension periods, but mods will continue to include many additional terms beyond simple maturity extensions. Indeed, complex modifications (read $100M and larger) remain prevalent, as recent notable mods suggest.

The analysts identify three noteworthy trends seen in recent modifications:

First, they are seeing more split A/B modifications - albeit they are expected to become less common in light of senior bondholder concerns over the practice.

Second, extension periods vary. Extension options, which are based on the borrower meeting certain conditions, are also becoming more prevalent.

Third, the Citi analysts suggest that mod reporting timing and breadth is inconsistent. "In general, quite a bit of sleuthing is still required for tracking mods."