CMBS Watchlist and Near-Term Loan Maturity Dates: A Need for Loan Modifications

by Michael Cohen

The impact from Covid-19 on CMBS loan performance continues to evolve. As time moves on, we will see the true strength of both the underlying property collateral performance and the CRE finance market’s appetite for certain asset classes and locations.

Approximately 6,500 CMBS loan maturities totaling $219B are set to occur in 2021-24, representing 60.6% of the current CMBS outstanding debt. These figures do not include loans which matured in 2020 and received a term extension from the Lender. To better understand the risk of loan maturity defaults we can look at the current financial status of the outstanding CMBS loans as an indicator.

2020 CMBS Defaults

According to a US CMBS 2020 Loan Default Study conducted by Fitch Ratings, the CMBS cumulative default rate hit a new high of 18.2% in 2020, exceeding the prior peak of 16.8% in 2013, with hotel and retail claiming the largest share of defaults.

The total annual default rate for 2020 was 3.3%, up from 0.3% in 2019 due to a spike in term defaults, which accounted for approximately 95.9% of total defaults. The increase in the cumulative default rate was also influenced by the sharp decline in new CMBS issuance in 2020.

The overall default rate would have been higher if not for servicers’ willingness to work with borrowers to grant relief. Today, the capital markets are active and there is a tremendous public and private money available, but not for every property type. In addition, to further understand the loan maturities we need to examine the operating performance and values of the existing debt

Watchlist Loans Status

A good measure to determine the overall health of existing CMBS loans is to observe the loans classified by the Loan Servicers as Watchlist Loan status.

As of April 2021, there was $361.5B of outstanding CMBS loans of which 34.5% of all loans were Performing Watch List (26.1%), Delinquent & Special Serviced (6.5%), Performing & Special Serviced (1.5%), or Delinquent & Watchlist.

However, the loans categorized as Watchlist Loans do not include all loans that are having issues, especially if they are current on their payments. For example, a loan with a major tenant which has vacated (“Gone Dark”), and continues to pay rent, will be categorized as a Performing Loan even though the property is in a full cash flow sweep and funds are held by the Lender. In many cases the cure under the loan agreement is to replace the Major tenant at pre-pandemic lease rates. If the lease rate cannot achieve in the perceived future the borrower in this case is left with few options: either maintain the asset through the life of the loan without receiving any excess cashflow until loan payoff through refinance or sell the asset today (at a discount with a dark tenant in place) and with a large defeasance prepayment penalty. A difficult choice to make. It is difficult to predict the future of how some properties will recover post – vaccine.

Focusing on CMBS Watchlist Loans by asset type it is clearly noticeable that the Hotel asset class was the most affected followed by Retail. However, as time moves forward, we anticipate that office lease renewals will not be renewed or if so for less space. These 3 asset classes alone represent 70% of all outstanding CMBS debt.

The Clock is Ticking: Loan Maturities 2021-2024

The chart above represents CMBS Loan Maturities through 2024 in total and broken out for loans with an April 2021 Debt Service Coverage Ratio of less than 1.20:1.00, representing loans without adequate cash flow to support refinancing the principal balance.

On average there is above 20% of loans maturing each year that are currently operating below a sub-standard DSCR of 1.20:1.00. It should be anticipated that borrowers will most likely need to inject new equity to refinance, assuming there is a lender for the product type and location.

According to a Fitch Report dated May 14, 2021, many retail and hotel properties will have difficulty refinancing; those properties already struggling prior to the pandemic or those with limited rebound potential, or where sponsors no longer want to inject additional equity to carry the property, will default at or prior to their maturities. Fitch anticipates extensions will continue for near-term maturing loans with committed borrowers and the expectation for stabilization.

In addition, Fitch states: Loans secured by office properties with weak occupancies strained by limited leasing momentum, upcoming rollover, and a high concentration of non-credit worthy or co-working tenancy will face refinancing difficulties. Fitch anticipates a trickle of defaults to continue through year-end.

Lower Rates: Enough to Make a Difference?

On the positive side, recently originated loans issued in 2021 transactions have significantly lower interest rates, with the weighted average coupon (WAC) of Fitch-rated CMBS conduit transactions issued since the start of 2021 at 3.57%. Replacing performing, non-defeased 2021 loan maturities ranging from 5.25%-5.75%.

Best Strategies: Be Proactive

Successful operators understand that achieving optimum potential for the property includes reducing potential risks. The same holds true for your CMBS mortgage.

The wait and see approaches tend to end up working with the servicer after the default event has occurred, putting the servicer under pressure, and resulting in a more conservative response by the Servicer.

Be proactive by informing the servicer of potential risks and presenting the exit strategy and request a loan modification earlier in the process to achieve the most success. If the loan is properly modified prior to the loan maturity the risk of a default is lowered and the Servicer is more apt to work on finding a workable solution.

Michael Cohen

Michael Cohen founded Brighton Capital Advisors to assist Borrowers through the complexities of CMBS, Bank and Life Company commercial mortgage servicing. Mr. Cohen has over 25 years of experience and leadership in commercial real estate lending, property investments, debt sourcing, advisory/workout/restructuring, and equity sourcing from the private sector.