A wave of maturing commercial mortgages is set to crest next year, with some $128.3 billion of securitized loans coming due by the end of 2017.
Kroll Bond Rating Agency reckons that roughly a quarter of these 1,803 loans may have difficulty refinancing, resulting in what is known as a maturity default.
Commercial mortgages typically have terms of 10 years, and borrowers repay little principal over this period; the bulk is repaid in a large “balloon” payment upon maturity. Some $230 billion of mortgages were taken out a decade ago, right before the real estate bubble burst, most heavily indebted, even at their then-inflated prices. Many paid only interest, and no principal, for their entire terms.
In many parts of the country, commercial real estate values have recovered to pre-crisis levels, allowing borrowers to refinance. And in recent years, a number of non-traditional lenders have also entered the market, resulting in increased competition and lower underwriting standards, to the benefit of borrowers.
But the recovery has not been universal, particularly for offices buildings, hotels, and shopping centers in secondary and tertiary markets.
Moreover, “conduit” lenders, who make loans to be securitized, scaled back early this year amid market turmoil and concern about impending regulations requiring them to hold on to some of the economic risk of these loans.
KBRA expects defaults on securitized commercial mortgages to peak in the second quarter of 2017.
It estimates that refinancing obstacles could bring as much as $4.2 billion in losses to investors holding bonds backed by these defaulted mortgages. By including similar vintage CRE loans that have already defaulted, the total potential losses could reach $7.7 billion.
The rating agency determined that more than a quarter of the loans due between October 2016 and December 2017 have a loan-to-value (LTV) of of 85% or greater. That throws into question their ability to refinance, particularly with downscale retail and office properties with flat valuations and deteriorating cash flow.
Nearly 37% of loans tied to office properties and 28.1% of retail-based loans have LTVs exceeding 85%; within that pool of loans, 12.8% of retail loans and 24.2% of office are underwater with LTVs at or above 100%.