Alarms Ringing for Office Market, Bank Collapse Triggers Office Downgrade, Bank of America Bullish on Multifamily
A Weekly Look at the Commercial Mortgage-Backed Securities Business
By Mark Heschmeyer, CoStar News April 6, 2023 | 5:37 A.M.
Alarms Ringing for Office Market: When the loan on Philadelphia’s largest stand-alone office building at 1500 Market St. moved to special servicing in August, it didn’t register much alarm at the time, according to a new report by Morningstar Credit Information & Analytics. After all, the property’s performance metrics were significantly below underwritten expectations for a loan securitized in commercial mortgage-backed securities deal JPMCC 2020-MKST.
But then, a loan on Wells Fargo Center at 1700 Lincoln St. in Denver that’s included in CMBS deal MSC 2019-NUGS transferred to special servicing after the borrower decided against seeking an extension in January. And in another case, Brookfield DTLA disclosed it defaulted on loans for two downtown Los Angeles office towers rather than enact an extension option.
Now, capital markets are acutely aware that the office market is coming under new stresses.
“The combination of uneven return-to-office patterns and an aging stock where the bifurcation between desirable and undesirable buildings is growing has people speculating that aging office properties may replace regional malls as the bane of CMBS investors’ existence,” Morningstar said in the report. “Property valuations are falling, and rising interest rates are putting further stress on properties that need to refinance in the near future.”
With corporate tenants reevaluating their need for space, Morningstar warned loan-to-value estimates and other traditional debt measures may no longer be adequate for determining the likelihood of refinancing or extending a loan.
Morningstar said it’s going to become more difficult to predict loan maturity defaults on top-tier office buildings typically owned by investors with deep pockets. And that doesn’t bode well for older Class B properties either.
The failed Signature Bank occupies about 182,000 square feet of 68 S. Service Road in Melville, New York. (CoStar)
Bank Collapse Triggers Office Downgrade: Fitch Ratings has downgraded two classes of CMBS deal WFCM 2017-C38 due in part to troubled office building loans including one portfolio primarily occupied by the failed Signature Bank.
The largest increase in loss expectations is on a Long Island, New York, office portfolio, which is secured by three suburban properties located at 48, 58 and 68 S. Service Road in Melville. The portfolio’s major tenants include Signature leasing 23% of net rentable area with a portion of the lease set to expire a year from now, according to the latest monthly bondholder report. Signature leases about 182,000 square feet at 68 S. Service out of the 776,720-square-foot portfolio.
The portfolio’s previous largest tenant, Citibank, which leased 26% of the space, vacated upon lease expiration a year ago. The RXR Realty-affiliated borrower then leased a portion of that space to Signature. The bank expanded its space across the portfolio and signed a lease through April 2040, with an average rental rate of $33.35 per square foot, which is above the market rent of $29.49, according to Fitch.
The bond-rating firm is estimating a base case loss of 10% to reflect the properties’ location, exposure to Signature and other upcoming lease rollovers.
RXR did not immediately respond to a request for comment from CoStar News.
Bank of America Bullish on Multifamily: The speedy response by the Federal Deposit Insurance Corp. to curtail last month’s banking crisis steadied a once-volatile interest rate environment, and it may spur an improvement in multifamily CMBS performance, according to Alan Todd, CMBS strategist for Bank of America Securities.
A rapid cheapening of multifamily CMBS bonds versus corporate bonds could be enough to bring some buyers back into the market, he said in a note to clients.
With apartment fundamentals expected to remain resilient and given the improved market tone, Todd changed Bank of America Securities’ stance on multifamily securitizations offered by Fannie Mae and Freddie Mac from sell to buy.
“Although we acknowledge the fact that credit concerns are likely to increase over the coming months, we think the recent banking sector induced stress has largely played out,” Todd said.
Among Fannie Mae and Freddie Mac’s CMBS deals, many multifamily properties have realized good rent growth over the past several years, Todd said.
“In addition, borrowers should have significantly less refinancing difficulty here than in other property types,” he said.
