Struggling Offices Face Permanent Loss of Value, Regional Mall Offers Test for Valuations, Concerns Mount for Single-Family Rentals
A Weekly Look at the Commercial Mortgage-Backed Securities Business
By Mark Heschmeyer, CoStar News May 18, 2023 | 6:09 A.M.
Struggling Offices Face Permanent Loss of Value: Investors should expect some permanent loss of value for weaker-performing office buildings, similar to what happened to Class B shopping malls leading up to and through the coronavirus pandemic, credit-rating firm Fitch Ratings said in a report.
The pandemic accelerated the shift to lower office requirements, according to Fitch. This is pressuring occupancy and cash flow while reducing financing availability from banks, nonbank financial institutions and CMBS lenders. A similar phenomenon of soft market sentiment and constrained capital access began for Class B malls in 2015 and continues today, Fitch said. Also, like Class B malls, the decline in office demand will likely be sustained in the foreseeable future.
While commercial mortgage-backed securities multi-borrower transactions have had a steadily increasing percentage of office loans in the past decade, single-asset, single-borrower office deals have represented a declining share of issuance. That signals lenders and investors have begun to back away from Class A office properties in primary markets.
There were more than $7 billion in office single-asset, single-borrower deals issued in the first four months of 2022, according to CoStar data. There has been only $1.6 billion of such deals in the last 13 months.
“This is likely indicative of reduced investor and lender interest in larger Class A properties in core coastal markets that are more vulnerable to hybrid work arrangements,” according to Fitch.
Class A office building sales in Boston, New York, Miami, San Diego, Orange County, California, Los Angeles, San Francisco and Seattle have been declining steadily since the second half of 2021, CoStar data shows. There were $8.9 billion in such sales in the first quarter of 2022 and only $2 billion in the first quarter this year. The average purchase price per square foot was $781 in the first quarter last year and down to $408 this year.
Fitch expects the office CMBS loan delinquency rates to increase to 3.5% to 4% by year-end 2023, from 1.45% as of March 31.
MacArthur Center is a 934,000-square-foot mall in downtown Norfolk, Virginia. (CoStar)
Regional Mall Offers Test for Valuations: Negotiations are ongoing for the potential sale of the MacArthur Center regional mall in Norfolk, Virginia. If a deal is concluded, it could provide clarity on how far the values of some Class B regional malls have fallen.
MacArthur Center is a 934,000-square-foot downtown mall anchored by Dillard’s and Regal Cinemas. The property is one of four malls that are collateral for a $681.6 million loan securitized in Starwood Retail Property Trust 2014-STAR.
DBRS Morninstar’s recent ratings of the CMBS deal reflected the expectation of sizable losses upon the resolution of the underlying loan.
The loan has been in special servicing since the borrower affiliated with Starwood Capital Group failed to pay it off at maturity in 2019 due to sustained occupancy and cash flow declines, according to DBRS. Starwood eventually gave up control of the four malls to a receiver.
Spinoso Real Estate Group of Syracuse, New York, is now managing the malls. Spinoso did not respond to requests for additional information. Starwood declined to comment.
A purchase agreement for MacArthur Center is very near the most recent appraised value, according to CoStar data. While the appraisal value for MacArthur Center has not been disclosed, the last appraisal for the four combined malls in December 2022 was $279.3 million. That is down from the $725 million appraised value in 2014 and is also much less than the amount owed on the loan. As of April, with outstanding loan advances and other servicing costs, the amount owed equaled $728.9 million, according to DBRS.
The other three malls backing the loan are:
- The Mall at Wellington Green, a 1.3 million-square-foot indoor regional mall in Palm Beach County, Florida.
- Northlake Mall, a 1.1 million-square-foot regional mall in Charlotte, North Carolina.
- The Mall at Partridge Creek, a 626,000-square-foot lifestyle center in Clinton Township, Michigan, about 30 miles north of downtown Detroit.
Concerns Mount for Single-Family Rentals: After a period of rapid home price growth nationally, declining values and rising interest rates are having a negative effect on single-family rental properties.
Moody’s Investors Service has downgraded one class of bonds from CMBS deal STAR 2022-SFR3. The bonds are backed by a $598 million loan secured by a pool of about 2,200 single-family rental properties owned by affiliates of Starwood Capital Group.
The rating action was primarily driven by the impact of the nearly 0.45 percentage point increase in the secured overnight financing rate, a broad measure of the cost of borrowing cash collateralized by Treasury securities, Moody’s noted. Also, the recent decline in home prices for the properties backing the loan has increased Moody’s estimated loan-to-value ratio over the past year to 105%, up from 99.5%.
An LTV ratio greater than 100% generally indicates a borrower is “underwater,” where a property’s value is less than the balance owed.
As of January, valuations of the single-family properties securing the Starwood loan had declined about 4.99% over the past year, Moody’s noted. Vacancies increased to 9.4%, up from 4.8% at closing. Rent payment delinquencies, though, have decreased to 4.3%, down from 6.1% a year ago.
The average contractual monthly rents have increased by 5.6% over the past year, according to Moody’s. That is off the historical average.
Over the past two years, the average rental rate increase on new leases in single-family properties was 11.7%, according to credit-rating firm Kroll Bond Rating Agency. Market data indicates that asking rental rates started declining in the third quarter, around the same time that home prices started to fall.
Starwood did not respond to a request for comment.
