By Luke An Lu, director, Yield Book mortgage research
As the COVID-19 pandemic began roiling US markets in March, few areas were hit harder or more swiftly than the commercial real estate (CRE) and CMBS markets. At the end of March, we published research demonstrating an already profound hit to several real estate sectors. Looking ahead, the length and depth of the economic downturn is still uncertain, and prospects for some real estate sectors remain dim. However, more recent data points to a steady recovery in other US real estate sectors.
Of all real estate sectors, the pandemic delivered the hardest and swiftest blow to hotels and retail. COVID-19 impact on the US hotel sector was immediate, with a drastic decline in occupancy and revenue as business and personal travel—as well as conventions—fell sharply. Data reported during the early weeks of lockdown reflected the severity of hotel sector impact, with only 3 in 10 hotel rooms occupied during the week of March 15-21.
In the retail sector, the pandemic brought foot traffic to a halt, accelerating the online shopping trend already underway and delivering a deeper blow to brick-and-mortar retail. This has been evident in numerous bankruptcies and liquidations across retail chains—many of them household names—since the onset of the pandemic.
Delinquency rates also illustrate the depth of the pandemic’s hit to hotels and retail. As shown below, CMBS loans 30 day + delinquency rates reached historic highs in July 2012 as the result of delayed impact from the financial crisis, and these highs were surpassed in the retail and hotel sectors in May 2020.
The US government has taken measures to soften the blow to CRE and CMBS markets. The unprecedented COVID-19 relief packages have the potential to reduce financial burden of commercial property tenants and mitigate the impact to CRE fundamentals. And just as it did during the last financial crisis, the agency CMBS market may again weather the storm with strong monetary policy and GSE support. This includes the Fed’s direct purchase of agency CMBS securities and a GSE forbearance program for multifamily properties. Further, TALF 2.0 was expanded to cover legacy non-agency CMBS AAA bonds.
It is perhaps because of these measures—coupled with a slowly reopening US economy—that data is starting to point to a recovery in some areas. US hotel occupancy steadily rose in April and May, from 30.3% in mid-March to 35.4% in mid-May. CMBS conduit AAA spreads has tightened by 60% to 135 bps from 330 bps in late March. And CMBS issuance is another bright spot, with five deals issued in May totaling $3.8 billion.
The road to recovery could be rocky for some real estate sectors. Rising delinquency rates may continue to increase as 7.6% of loans are still in a grace period or less than 30 days delinquent. The office sector could also be materially impacted, as it remains to be seen whether working from home will become the “new normal” after pandemic restrictions are lifted. And with uncertainty surrounding on-campus college reopening in the fall, the future of student housing is unclear. Finally, the grim and staggering toll COVID-19 has taken on senior housing may still be felt for some time to come.
As the US reopening unfolds and the economy reawakens, much still remains unseen. Comprised of real estate sectors impacted by the pandemic in different ways, the CMBS and CRE markets have begun to signal that they could be poised for some sort of recovery—albeit an uneven one. But as the table shows, economic shocks can take a long time to play out in CMBS.
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