September 11, 2020
For many market participants, the last seven months have felt like one continuous white water rafting expedition at a Class 5 level of difficulty – large waves of uncertainty crashing from every direction, with the possibility of major hazards and huge drops that demand precise maneuvering.
Although the most recent employment report showed 1.4 million Americans got back to work in August, the nation has lost 11.5 million jobs since February. That number may rise, with one reportsuggesting online schooling could push 4.2 million parents out of the workforce. The need for additional federal support is clear, as Federal Reserve Chairman Jerome Powell noted in a recent interview. Unfortunately, political posturing prevails ahead of the November election, and we are unlikely to see more economic stimulus before then. Republicans proposed a scaled-back $650 million aid bill, which failed in the Senate this week. Though this may prompt some market participants to adopt a wait-and-see attitude, it’s worth noting that many investors profited in the past by weighing their options and taking action ahead of election day.
The industry faces significant challenges related to durability of income. Retail performance continues to be choppy, with full-service restaurants bearing the brunt of the downturn compared to their limited-service peers, according to new research from Marcus & Millichap. Meanwhile, the decline in travel continues to decimate hotels, with Fitch Ratings forecasting a five-year timeline for revenues to rebound. The special servicing rate for retail commercial mortgage-backed securities (CMBS) hit 17.3 percent in August, while lodging CMBS special servicing rate hit 25 percent, according to a report by Trepp. By contrast, special servicing rates in industrial (1.21%), multifamily (2.56%) and office (2.93%) asset classes remained steady compared to July.
The multifamily sector was hit with a legally dubious, four-month eviction ban from the Centers for Disease Control and Prevention, which lasts through the end of the year. The National Multifamily Housing Council called the order “a stopgap measure that puts the entire housing finance system at jeopardy and saddles apartment residents with untenable levels of debt.” Meanwhile, COVID-19 outbreaks at universities are taking a toll on student housing, apartment bankruptcies are emerging, and household formation is contracting, with more than half of all young adults living with parents for the first time ever. Some self-storage properties are seeing a bump in demand as colleges shut down and students store their possessions.
On the bright side, we are seeing deal flow, with investors paying pre-pandemic prices for the right assets in optimal locations -- with the knowledge that at some point, a vaccine will be developed and economic activity resume.
Some CMBS lenders have moved to the sidelines, noting their difficulty finding quality transactions. But capital remains available from multiple sources, at, near or below historic rates. For example, we are seeing 10-year multifamily loans at 2.5 to 2.6 percent on Fannie Mae Green Financing deals. Banks are reportedly becoming increasingly worried about repayment on CRE loans, amid a rising volume of so-called “criticized loans,” defined as the equivalent of debt rated CCC or lower by a credit agency. Criticized CRE loans rose by 144 percent to $26 billion in the second quarter, according to an analysis by the Financial Times. Not surprisingly, banks that are lending continue to be cautious with reserve requirements and other conditions. Amid the uncertainty, the next 45 to 60 days offer favorable opportunities to lock into long-term financing. Contact an MMCC Capital Advisor for expert guidance in navigating these turbulent waters.