With U.S. CMBS servicers needing more time to resolve delinquent loans combined with market value declines, loss severities are expected to rise markedly for U.S. CMBS next year and well into 2010, according to Fitch Ratings in its latest annual U.S. CMBS loss study.
More than three-fourths (78%) of loan resolutions resulted in no losses to the trust last year. But with commercial real estate debt capital remaining scarce, disposition times will increase to between 24 and 36 months as special servicers are contending with a record backlog of loans (up more than 300% since beginning of the year).
"Special servicers may have to hold certain properties until liquidity returns to the market," said Britt Johnson, a senior director at Fitch. "Though recent REMIC reforms may help mitigate loss severities, defaulted loans will take more time to be resolved and losses often will be deferred until maturity."
Multifamily loans represented an average cumulative loss severity of 38.6% in 2008, with that number likely to increase as many markets have seen increasing levels of unemployment and are suffering from oversupply.
Other property types that will see increased loss severities include office (33.3% cumulative average loss in 2008) and hotels (39.5% last year).
"Additional hotel losses and defaults are likely as sponsors may deplete reserves or discontinue coming out of pocket to pay debt service on underperforming assets," Johnson said.
Commercial mortgage servicers have been seeing a continuing rise in troubled loans in the first half of 2009 as real estate market conditions remained tough across the U.S., according to a recent report published by Standard & Poor's Ratings Services.
"Delinquencies kept edging up, and primary and master servicers also transferred more loans to special servicing due to actual and upcoming maturities and other nonmonetary defaults," said Standard & Poor's servicer analyst Michael Merriam. "Not surprisingly, special servicers reported an upsurge in problem loan transfers and related asset management activity at midyear compared with the second half of 2008."
Standard & Poor's ranked special servicers took on 2,691 new loans totaling $46.6 billion through the end of June, a 33% increase by loan count and a more dramatic 134% rise by unpaid principal balance compared with the prior six-month period.
The newly transferred loans contributed to a significant rise in special servicers' unresolved loan portfolios. The overall number of unresolved loans increased 13.6% to 4,504 at mid-year, while the unpaid balances shot up 121% to $66.9 billion.
"The discrepancy between the increase by loan count and balance indicates that the size of the average loan entering special servicing has nearly doubled, to $14.8 million," Merriam said.
In addition, Standard & Poor's ranked special servicers reported larger portfolios of unsold real estate owned (REO) assets in the first half, as a dearth of financing sources and lower real estate valuations continued to hinder their efforts to work out troubled loans and sell foreclosed properties. Special servicers' real estate owned portfolios increased 30% by property count (to 750 unsold properties) but just 10% by balance (to $4.3 billion), which indicates a reduction in the average size of individual real estate owned assets.
Despite the unfavorable market conditions, Standard & Poor's ranked special servicers were still able to resolve a moderate number of assets.
Between January and June 2009, they completed 814 total loan resolutions, consisting of 156 full payoffs, 93 discounted payoffs/note sales, 365 restructures, and 200 loan-to-REO conversions. They also sold 113 real estate owned properties.
"However, the gap between the inflow of new loans and the number and balance of resolved loans widened further in the first half," Merriam said. "Moreover, the percentage of full payoffs dropped, while the percentage of loans converted to REO status jumped to 25% at June 30 from 11% at year-end 2008."
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