Despite the issuance of CMBS hitting a new 14-year high in 2021, specialized service providers are still working to resolve the high level of debt.
Industry data shows that CMBS loan defaults are improving steadily. Crimes, which peaked at 10.3 per cent in June 2020, fell to 4.18 per cent at the end of January. According to Trap, both the hardest-hit sectors, lodging and retail, have shown significant improvement with 30-day delays at 8.37 per cent and 7.96 per cent respectively.
WMRE SightsAMC recently spoke with Kurt Spaugh, Chief of Special Servicing, to hear his thoughts on what’s next for CMBS crimes. The firm’s specialized servicing division has expertise in all types of asset and geographies with complex capital structures, bankruptcy and REO management. In addition, the company recently announced that it has secured 107 special servicing assignments in 2021, totaling more than $65 billion in unpaid principal.
This interview has been edited for style, length and clarity.
WMRE: SitesAMC received a substantial amount of new special servicing assignments in 2021. Just to clarify, are those assignments for debt in distress, or just newly issued?
WMREQ: How does that $65 billion compare to the new assignments your firm received in 2020?
Kurt Spagg: It was a huge increase for us. In 2020 we had to ramp-up very quickly due to COVID. A lot of distressed loans came at the doorstep in March, April and May of 2020. We hired some good people; We have a really good team that works well with our customers; We are very reactive; And I think the industry has noticed that.
WMRE: I think part of the growth is due to the issuance of CMBS which also impacts a new Post-Great Financial Crisis?
Kurt Spagg: Yes, this is the function of issuance in general. no doubt about that. Another thing that drives our numbers on dollar amounts is that we’ve become a SASB expert. Many of the big SASB deals coming our way could be anywhere from $200 million to $500 million, or even over $1 billion.
WMREIndustry data shows CMBS crime rates continue to decline. What is your view on where are the CMBS crimes overall and where are they headed?
Kurt Spagg: We have seen a gradual improvement in crimes, especially in the lodging sector and resort lodging in particular. The urban housing struggle next to the convention center continues. Retail is struggling too, but it’s getting better.
WMREWhere do you see the biggest hot spots for problem loans right now?
Kurt Spagg: The type of property we are looking at is the urban office. The work from home experiment seems to have worked well for employers and employees. This has not yet been reflected in commercial real estate crimes, as all of these office buildings have long-term leases. So, you won’t know the impact from the work-from-home until the leases expire.
I am expecting that some companies will not renew their office leases, and some companies will renew for less space and go to a hybrid model. At the same time, it will be interesting to see what happens in the office space. I think there’s going to be a flight to quality. A B type office is really going to struggle because tenants have the ability to upgrade to an A space for the same rate they were paying for their B space. We’re seeing this with the flight to new properties in New York that have moved there. So, that’s where trouble is on the horizon.
WMREQ: Looking at the long-term leases that are pushing up the office sector, when do you think we might see some of that crisis coming?
Kurt Spagg: Most likely it is going to come in the next one or two or three years. Many of these large SASB loans are not made with the typical 10-year loan term. Many of them are three year loans with three years extension. Some of those loans were made on top of the market in 2017, 2018 and 2019. We may see some of those loans defaulting to maturity, where perhaps they were able to pay but could not get take-out financing. Take-out financing will be difficult to underwrite, because you don’t know what is going to happen to leases that expire in the next year or two at the time of that refinancing. Who knows what that’s going to look like, but I see it becoming a big problem in two and three years.
WMRE: Given the current crisis in the market or has recently been corrected, what kind of solutions are most common these days?
Kurt Spagg: We may be different from other special servicers because we are heavily into SASBs, but we have either turned the loan around using reserves and haven’t done a major restructuring, but I would say a short-term modification that involves pulling from reserves Or giving a short debt service break.
In some cases, we have ended the foreclosure. We all know enough not to kick the can too much, and many borrowers feel the same way. If they can’t see a way out, they are ready to throw away the keys. There hasn’t been a lot of times where it wasn’t black or white. Everyone knows when a property is going to struggle, and no one wants to put extra capital on it. Of course, we’ll always need some extra skin in the game for any sort of major restructuring. So, we’ve either made minor modifications or foreclosed on and that’s about it.
WMRE: Do you have any data or perhaps anecdotal insight on how much distress ended up in foreclosure as an REO property?
Kurt Spagg: For us, overall it was a small percentage that went REO, and much less than in the days of the great financial crisis. Part of that reason is that there was a little more clarity about the future for people, especially in the lodging industry. People thought it was a COVID problem and if they can get over that hump it will be fine. In the Great Financial Crisis, no one could see when we were coming out of that, and people gave up on properties a little easier at that time.
WMRE: Do you think there’s a lot on the way for REO ahead?
Kurt Spagg: We don’t see the great liquidations we saw in 2008, 2009 and 2010. People are very comfortable that we are over COVID and they want to travel and there is a demand to get out. The issue is really how COVID changed our world, and again I go back to the office product and the fact that people can and do work from home and be effective and probably give their employer significant leasing by doing so. can save costs. Urban retail is likely to struggle in markets such as San Francisco or Chicago, and there will be some areas of urban hospitality that are not driven by tourism that will suffer. For us, REO cases are rare, as we have a large SASB portfolio, a large CLO portfolio, and a large single family rental portfolio.
WMREThe pandemic created unprecedented circumstances. Has this led to any long term structural changes in CMBS or how specialized servicing is handled?
Kurt Spagg: I don’t know that all this has changed. A lot of things changed after the great financial crisis, and I think we’ve seen the results. This time around the underwriting of loans has been much better, which is part of the reason why we haven’t seen many liquidations and foreclosures. CMBS healed itself after the great financial crisis, and this time we hit COVID, it looked like things were much easier for the industry in general.
