Where Did $700B in Maturing CRE Loans Go? | Top of Mind - Aspen Funds
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Where Did $700B in Maturing CRE Loans Go? | Top of Mind


Learn about what happened to the $700B of commercial real estate loans that were set to mature last year, and what it means for the CRE market in 2024.

Globe Street Article – https://www.globest.com/2024/02/20/about-multifamilys-tightening-performance-between-top-bottom-markets/

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Introduction and Welcome

Ben Fraser: Welcome back to the Invest Like a Billionaire podcast. I’m your host, Ben Fraser joined by co host, Bob Fraser. Today, we got a top of mind episode to talk about. 

Unpacking the $700 Billion Question in Commercial Real Estate

Ben Fraser: Where did the 700 billion of loans that matured last year in the commercial real estate space go? We saw that there was this big distress in the system and. 

Bob Fraser: What happened to the meltdown, man?

Ben Fraser: I know, I guess we just made it through. I guess it just was no big deal, right? So what happened? 

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The Strategy of Loan Extensions Explained

Bob Fraser: So appreciate the research of John Chang and Marcus Milchap, who we’ve had on the show a couple of times and we love very much, but basically doing the analysis under the hood of all these maturing loans, the vast majority of these distress loans.

So these are loans that are troubled loans, bridge loans primarily, and they originated in kind of the bubble of, you What has happened is they all been deferred. So it’s exactly what we thought would happen. They’re kicking the can down the road. So what it means to defer is they basically extend the loan.

So instead of being due this year, they give it two more years. And maybe they drop the interest rate. Maybe they take some of the arrears of the loans and they tack them onto the principal. So they’re doing basic extensions. The vast majority of these loans have been just punted. And it goes back to what Fitch said when we, a year ago, we’re quoting the Fitch stats that said that 25% of the loans that they’ve seen are distressed, but they believe the servicers.

Are going to just manage that and not create foreclosures. So what no one wants to do, these big lenders don’t want to create a big liquidity crisis where everyone has to dump these on the market and then they will take greater losses. So it’s punting the problem down the road in the hopes that 2 years from now, the market will be stronger than it is today.

It’s not a bad strategy actually, right? It’s just an extension and let’s put this problem off to a later day. And again, truly, if rates come down, in a couple of years, things will be better and assuming that we also see the market, we’re seeing softness in rents, softness and vacancies.

We’re seeing increased expenses and insurance and of course, mortgage rates. So if any of those things ease a few years from now, everything will be better. So then these properties will presumably get better. 

Ben Fraser: And it’s something obviously we’ve talked about for a while now of just this kind of looming maturity wall with distressed loans and it makes sense, right?

Coming from the banking world, a lot of these, whether it’s banks or bridge lenders, which I’ll make a point here in a minute, but a lot of times the They don’t want to take back the properties that’s not the ultimate goal, because they’re not generally operators, right? They want to lend and they want to get paid their interest rate and they want to get paid off down the road.

And so a foreclosure is really the worst case scenario for a lot of these lenders, and especially if it becomes a bigger lender. Issue like a liquidity crisis, like you’re saying, where all of a sudden everyone’s foreclosing, no one’s buying. So you’re taking even deeper losses because there’s no market for buying these.

And so it makes sense that they’re extending. And as you just said, the hope is. The market kind of recovers in terms and it’s the worst of all factors hitting all at the same time. You just did a presentation a few weeks ago at a large conference talking about some of the issues that the commercial real estate market and specifically the multifamily market is experiencing.

Rents are coming down because there’s a whole bunch of new supply, especially in the Sunbelt markets, that’s creating competition for tenants and rents are down. Operating costs are significantly up insurance costs, property taxes are being reassessed. Just ongoing labor maintenance, property management, and then you’ve got increased debt service costs.

So every single factor is squeezing. These properties, but the hope is that kind of eases over time. 

The Impact on the Banking System and Future Predictions

Ben Fraser: The other kind of point I wanted to make, because we talked about this other day in our episode called the banks are not okay. And it was a little bit facetious because a lot of people assume that this is going to create a massive banking crisis, but a lot of these loans are really struggling, the majority of them are bridge lenders, which are not traditional banks.

These are usually private lenders and a lot of times they will sell commercial collateralized loan obligations to CLOs and securitize these portfolios, but they’re not traditional lenders that a lot of people think of as, what are the ones financing these properties? So do you foresee if these maturities continue to head and you can’t kick the can down any further, we will see some impact to the banking system, but, maybe not as severe as a lot of people might think.

Bob Fraser: We’re not seeing distress in the banking sector for sure. We’re seeing a few banks that are stressing their smaller banks. This really is not going to go systemic in a banking crisis. Real estate crises are normal. They happen all the time, but rarely do they turn into a banking crisis. And that’s when it gets severe.

When a real estate crisis turns into a banking crisis, you have a problem because the banks Are the financial plumbing of the world. And so if the plumbing backs up, you have a big problem. And right now it’s not happening. Banks are very healthy by and large. So it’s really not a problem. 

Navigating the Troubled Waters of Multifamily Real Estate

Bob Fraser: So basically we saw 23, which was a big maturity year of troubled debt, especially let’s just talk about the multifamily space.

And you saw record deliveries of new apartment complexes into the weakness. And so all that stuff was extended. Pretty much most of it was extended. Not a lot of foreclosures are happening. What’s happening though, is we’ve got two more years of pretty massive maturities. According to Newmark, there are 159 billion in troubled multifamily.

These are multifamily only loans. And these are ones troubled and what troubled means they’re not earning enough. So 38% of them, according to credit IQ, have a debt service coverage ratio below 1. 25. What does that mean, Ben? 

Ben Fraser: They don’t make enough income to pay all their expenses and their debt. 

Bob Fraser: And service the debt. Is that a problem? 

Ben Fraser: Big problem. 

Bob Fraser: That means banks will not refi these loans. And they can’t get a new loan for it. So 159 billion maturing that can’t afford the new debt. That does not include being at higher interest rates. And then 35% of them, these maturing loans had origination cap rates below 4% means they were bought at the very top of the bubble and they massively overpaid for these.

So we’ve got two more years of this where we have even more deliveries happening. So 1, 000, 000 doors of new apartments are being delivered and we have 159, 000, 000, 000 in trouble with debt maturing. So will they continue to extend? My guess is yes, they will continue to extend those loans, but they will, at some point, they’re going to start to just say, we’re going to foreclose some of these.

We’ve looked at a few distressed debt opportunities in our business and these deals, one of them in particular, we won’t name, but there’s no option for extending, right? You can extend all day long in this deal. It’s never going to work. 

Ben Fraser: The principal balance is higher than the current as is the value of the property.

Bob Fraser: And even if they finish executing their business plan, if they got a fillion bucks to finish executing their business plan, it’s still unlikely to cover the senior debt plus the three or 4 million in capital they need to rejuvenate. It doesn’t even cover it. So what’s the answer? You can extend that all day long.

The problem is the basis is just too high and it’s going to go to foreclosure at some point. So you can extend, but then there’s a lot of loans that are going to be like that. The servicers can extend in the hopes of. Stupid money coming in to bail it out. But my guess is there’s just gotta be enough of those.

Ben Fraser: 100% agree. I think there’s going to be a big spectrum, right? Of, like you said, that’s probably one end of the spectrum where there’s just, there’s no way you’re going to work out of this. And it’s probably just putting good money after bad to continue to try to rescue this property and this market because the basis was just too high.

And, in real estate, you make your money on the buy. And if you bought too high, it’s just very difficult to come out. In front of that, there are other properties where it’s on the edge. It can go either way and it’s not over leveraged or underwater in the sense of the loans worth more than the property, or you might lose some equity, but it’s not going to be a complete wipe or foreclosure.

And then there’s other deals where, depending on what markets you’re in, you actually might see a big rebound in rent growth. 

The Varied Landscape of Real Estate Markets

Ben Fraser: One of the slides you had in your presentation is from globe street. Actually, we could put this in the notes here, but the different markets in the kind of quartiles of markets on rent growth, where the kind of bottom quartile of markets is expected in 2024 to have a negative 4% rent growth. And these are the really high supply markets. So these are right. Sunbelt markets. This is Florida, this is Texas. This is Atlanta, Phoenix, where there’s been a ton of new deliveries of apartments. And as expected, rent growth is going to likely be negative to bring tenants in, but the top quartile markets are actually expected in 2024 to have a 6% rent growth, right?

So that’s what’s so important in all this analysis is not to lump everything together, right? It’s sometimes helpful to understand the big picture going on, but then in real estate, not all markets are created equal. And there’s not one real estate market, right? There’s lots of different real estate markets that perform differently based on the fundamentals. And so the Midwest, the Rust Belt, even the Northeast are actually predicted to have positive rent growth. 

Wrapping Up and Engaging with the Audience

Ben Fraser: I hope you guys are enjoying this episode. Any other things you guys want us to talk about in these Top of Mind episodes, please reach out and subscribe. If you’re not already subscribed, leave us a review, share with a friend.

Appreciate your listening. Stay tuned for more episodes coming up.


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