Another 'hope' note struck as part of the modification of a loan in a CMBS pool has proved hopeless.
Trepp reported today that the The B portion of a restructured $72 million loan backed by the Kings' Shops mall in Hawaii has been written off entirely.
In December 2011, the loan, part of the CMBS deal GSMS 2005-GG4, was split into a $38 million A note and a $34 million B portion. The latter is often referred to as a “hope” note. In addition, the borrowers were granted an extension of over four years.
The December remittance report for the CMBS deal GSMS 2005-GG4, in which the loan is included, showed that the B note was written off in full while the A note was retired without a loss.
The B note is called a hope note because at the time that it’s struck it is 100% underwater; this allows for the A note to be structured with a balance near the current value of the property. The special servicer "hopes" the borrower can grow the value of the collateral sufficiently above that level to make the hope note worth something later.
Over the past 18 months the use of “hope” notes have been quite prevalent in CMBS loan modifications, said Richard Hill, director of CMBS & CLO strategy at the Royal Bank of Scotlant
Hill said that typically a hope note will be drawn to get something else from the borrower, such as a paydown on the A note. Hill said that in many cases a hope note is struck on properties where there is at least some likelihood that the value of the property will improve.
The strategy hasn’t really paid off. According to Trepp, the Kings’ Shops loan is the latest to default. The property behind the loan was 72,000 square feet of retail space in Waikoloa, Hawaii. The property was about 87% occupied as of the middle of 2011. At the time of the modification, the loan made up 2.1% of GSMS 2005-GG4. The loss cancelled out the K and L classes from the GG4 deal and part of the J class.
But hope notes defaulting shouldn’t come as too much of a surprise, said Hill. “The big joke in the industry is that hope notes should be called 'hopeless notes' because in many instances you just see them redefault and have no recovery value,” he said.