Billions of dollars in new headaches ahead for old real estate deals
A signature financial instrument of the pre-financial crisis real estate boom is about to come due. And for some large real estate owners – particularly in the Midwest and Southeast – that could mean trouble.
More than $53 billion out of $156 billion worth of securitized commercial mortgages that are set to mature in the next two years may find difficulty refinancing or require more investor capital, according to data compiled by Real Capital Analytics.
A decade ago during the previous real estate upswing, hundreds of billions of dollars were borrowed by investors to buy commercial properties. Those loans were then packaged and sold to the market in what is known as commercial mortgage-backed securities or CMBSs.
In 2006 and 2007, a total of $433 billion was borrowed, according to data compiled by Morningstar and the CRE Finance Council. But with the collapse of the real estate market and some of the financial institutions that issued the securities (Lehmann Brothers, for example), the market for CMBSs imploded. By 2009, just $3 billion in CMBSs were issued.
Since securitized commercial mortgages generally have 10-year terms, many of the loans originated a decade ago that weren’t subsequently terminated because of a resale or refinancing are about to come due. Of the $156 billion that are expected to mature in the next two years, Real Capital Analytics forecasts that about one-third will need investors to put more money in or will be worth less than the original loan.
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Some parts of the country will get hit harder than others. Loans in the Northeast and Mid-Atlantic are relatively safe with real estate values above their 2007 peaks. But 59% of CMBSs coming due in the Midwest and 55% in the Southeast will have trouble refinancing, according to Real Capital Analytics’ Jim Costello.
“Property values haven’t grown as quickly in some of those locations,” he explained. “There’s a hollowing out to some of those old industrial economies. There are just not as many tenants, as much income, or as much rent coming in.”
And not all types of real estate will affected the same way. Retail properties are expected to hurt most, with roughly half of the more than $50 billion loans coming due is anticipated to require more capital in the next two years.
However, the market may not mean massive defaults or foreclosures, according to Costello. Instead, he expects investors in properties requiring capital will generally take either of two paths.
One is to look to higher-cost loans, also known as mezzanine financing. In such transactions, the lender takes a junior position to the mortgage but at a much higher rate to offset the higher risk. Alternatively, investors may get out of their troubled properties entirely.
“They may just look at the situation and say, ‘I’ve made some money. I’m going to take what equity I can, sell the building, and walk away,’” said Costello.
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