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Scrutiny rises as exposure to self-storage grows in conduit deals

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Self-storage rental properties have always made up a small portion of the collateralized holdings within the commercial mortgage-backed securities market.

Today, that number is beginning to rise, and investors are asking more questions about how rating agencies view the risk this increase poses to the CMBS market as a whole, according to a report from S&P Global Ratings.

So far in 2019, self-storage property loans have made up 4.02% - or $1.6 billion - of the $40.6 billion in CMBS issuance, according to Trepp. That is approximately double the levels in 2018 (2.39%) and 2017 (1.98%).

Traditionally, commercial mortgage-backed securities are marketed through two forms: conduit deals that pool multiple borrowers with loans secured by a range of properties, and transactions with single asset/single borrower, or SASB, loans, which involve one property with multiple lenders.

Self-storage units were bit parts on conduit deals in the post-crisis era, usually no more than 3.5%, according to Trepp. But as new-construction spending took off in the self-storage sector in 2015, lenders for self-storage operators like StorageMart, U-Haul and Extra Space Storage began financing loans through the CMBS market with SASB securitizations.

Roughly 45,000 to 52,000 self-storage properties operate across the country, producing $38 billion in annual revenue, according to an industry blog operated by SpareFoot Storage Beat. U.S. Census Bureau data states construction spending on mini-storage properties soared to $5.27 billion in 2018, after reaching an all-time high of $3.6 billion in 2017.

But recently, more deals have included portfolios of self-storage properties owned by the companies (including real estate investment trusts) within conduit deals alongside other property types like office towers, retail shopping malls, industrial parks and multifamily dwellings.

In 1994, S&P reports, self-storage property loans accounted for only $5 million in conduit CMBS deals. In 2018, 168 loans totaling $2.2 billion for self-storage properties were securitized, and that number continues to rise, according to S&P.

Self-storage property loans are also making up larger portions of collateral. In December, USB launched a $646.5 million CMBS backed by 41 loans that included a portfolio of self-storage facilities (Great Value Storage ) representing 8.5% of the collateral - the largest exposure in the transaction.

CRE loans for self-storage properties have different characteristics than the typical office and retail properties found in CMBS deals. Like hotels, self-storage properties can have high cash volatility because of the short-term nature of their use (unlike office buildings or shopping centers with multiyear tenant leases).

There are also risks from asset value changes, rising from the construction boom that in the event of an economic downturn could expose large-scale vacancies to the secondary and tertiary markets the units are largely built within.

The total represents about 5% of the loan composition for all U.S. CMBS deals, which S&P considers too low to be worrisome.

But few building types have expanded like self-storage units in recent years, which could explain why more of these loans are being securitized, the report said. Much of this growth is attributed to demographic changes that are driving the construction of new self-storage properties nationwide. Downsizing baby boomers need space to put their stuff, as do millennials moving into crowded cities. People in suburbs need the extra storage as well.

Joseph McBride, an analyst at Trepp, said the potential for overbuilding, due in part to low barriers of entry, is one danger for CMBS deals, because that could create problems with income streams in the future.

“If one property exists in an area and suddenly owners have to compete with two or three other self-storage facilities, they could compete by lowering rent to tenants,” McBride said.

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