For the last two years, commercial real estate (CRE) price indices have been fluctuating and it does not appear any recovery is going to happen soon, Moody's Investors Service said in its weekly credit outlook report.
Even though the Moody's commercial property price index experienced a 5% gain in July, these assets only returned to the average that they originally bottomed out at in August 2009.
“We view this month's uptick more as another bounce along the bottom than as a harbinger of a recovery,” Moody's said in its report.
Prices that remain stalled result in a credit negative, Moody's said, particularly those that are commercial mortgage-backed securities deals and portfolios containing loans underwritten at peak valuations that mature over the next year.
“Stalled price recovery reduces the likelihood that underwater loans can grow their way out their value deficiency, particularly those with near-term maturities,” Moody's said. “The result will be an increase in maturity defaults, many of which will result in loan extensions.”
The peak in CMBS loan originations and valuations occurred in 2007. With loans sized to approximately 70% of then-current values and the current market down by more than 40% since this peak time, many loans from that period are underwater by 15% or more.
According to Moody's, CMBS deals require significant price appreciation in order to refinance. However, the New York-based rating's agency said it does not anticipate commercial property values to significantly increase over the next year because of two main reasons — diminished lending and weak demand for vacant space.
The agency said CMBS loan originations have slowed because of global capital market issues, such as the sovereign debt crisis.
Another factor that creates pessimism for any type of recovery is slow job growth. With the unemployment rate still hovering at 9.1%, the lack of consumers who are making any reasonable income to consider purchasing CRE pushes back the leasing of vacant space, therefore delaying rental growth at the same time.
An additional drag on price recovery comes from the elevated levels of distressed sales, which have exceeded 20% of U.S. property sales activity in 22 of the past 24 months.
Moody's said CMBS performance has varied by location and sector. The agency said major markets, such as New York's office buildings, are closing in on peak values and have roughly doubled their levels of a decade ago. At the same time, apartments in the South are down 40% since the peak in CMBS loan originations and have fallen back to 2000 levels.