Servicers Brace for Potential Storm

MBA (4/16/2008 ) Murray, Michael
Despite slow growth in delinquencies, commercial mortgage servicers are bracing for a challenging year as the credit crunch and an economic slowdown continues through the second quarter.

“We’re definitely bracing for more,” said Mike Lipson, executive vice president at Capmark Financial Group, Horsham, Pa. “It’s more talk than reality right now. There has been an uptick in transfers to special [servicing], but it is not an avalanche of any type [or statistically significant]. It’s still that small, little snowball. The smaller loans tend to be delinquent. It’s really an underwriting story more than anything else. They were underwritten with expectations of growth or some new lease being signed, and that’s not happening.”

A Mortgage Bankers Association Research DataNote reported that data from J.P. Morgan, New York, and Wachovia Capital Markets, Charlotte, N.C., showed more than $600 billion of outstanding loans in commercial mortgage-backed securities (CMBS) fixed-rate deals, but only $16 billion of that amount scheduled to mature this year and another $19 billion in 2009.

"There's been a general impression that a large volume of commercial/multifamily mortgages are coming due this year and next," said Jamie Woodwell, senior director of commercial/multifamily research at MBA. "The reality is that 2008 and 2009 will see a relatively small volume of maturing mortgages, with the majority of CMBS loans not maturing until 2015 or later."

Most of the loan maturities for JP Morgan and Wachovia Capital Markets consist of well-seasoned and amortizing loans, and the surge in sales and financing volume from 2005-2007, coupled with the fact that CMBS loans tend to have a 10-year term, mean that the majority of CMBS loans will not mature until 2015 or later, MBA reported, with $98 billion of loans scheduled to mature in 2015, $128 billion in 2016 and $127 billion in 2017.

JPMorgan reported $14 billion of the $16 billion maturing this year and $14 billion of $19 billion due in 2009 are fully amortizing.

According to Wachovia Capital Markets, more than two-thirds loan volume due before May 2009 was originated prior to 2000. Wachovia identified $30 billion of large-loan floating rate deals that will be coming due prior to May 2009. The maturity dates are spread through May 2009 with two relatively larger volumes—$3.5 billion and $3.3 billion—coming due this year in August and October, respectively, MBA’s Research DataNote said.

Meanwhile, servicers have reported automated processes going “by the wayside” in favor of manual intervention—including phone calls and less standardized letters. Industry experts said many investors are calling servicers with a wide variety of questions—general and specific—on the capital markets, property-type and geographical performance and the impact of rating agency downgrades and deterioration of levels.

“People are looking for information. That’s what this is all about,” Lipson said.

Fitch Ratings, New York, said yesterday that large commercial banks in the United States—saddled with troubled residential real estate exposures—are likely to see increased financial pressure from their exposures to commercial real estate and CMBS. However, the ratings agency said that CRE exposures are unlikely to be a primary ratings driver for most U.S. large banks and brokerages.

"Most banks have fairly well diversified portfolios and have avoided the excessive concentration in commercial real estate assets that plagued the industry during the 1988-1992 real estate lending crisis," said David Spring, senior director at Fitch. "Additionally, many firms with greater levels of exposure have already taken steps to reduce their holdings, while some brokerage firms have been able to successfully hedge exposures."

MBA’s Commercial/Multifamily Originations Survey for 2007 reported Wachovia as the top originator last year for real estate investment trusts, mortgage REITs, investment funds, Fannie Mae and conduits, while Bank of America was a major originator for commercial banks and/or savings institutions. On Monday, Wachovia Bank reported a $350 million loss in the first quarter, net valuation losses of $521 million in commercial mortgage structured products and $2.8 billion set aside for credit losses to consumers and businesses.

Capmark Financial finished in the top 10 and first for Freddie Mac, FHA/Ginnie Mae, and specialty finance company originations.

“Commercial real estate is performing better than the economy is in general,” Lipson said. “Now, if the economy continues to deteriorate significantly—and you have a deep recession—then clearly we will have a significant level of delinquencies and defaults. But you don’t have the oversupply, you don’t have the vacancy levels—a lot of these properties should be able to sustain it.”

Lipson added that the U.S. rustbelt region and multifamily in Texas are showing signs of problems but nothing historically significant.

Bob Vrchota, managing director at Fitch, said CRE-related losses could be greater based on the severity of an economic slowdown, but a repeat of the saving and loan crisis of the mid-1980s is highly unlikely.

"The commercial real estate markets are not facing the same significant oversupply that plagued the markets in the late 80' and early 90's, plus tax treatment of commercial real estate projects has been relatively steady," Vrchota said. "Financial institutions will continue to CMBS as permanent financing for future commercial real estate projects, though some players may retrench their activities somewhat in the near term in light of the current dislocations."

Some servicers said the more recent vintage with thin subordination levels in 2006-2007 are getting questions from investors. Also, REO properties could increase if borrowers were willing to give up on the property quicker and, depending on the borrower’s attitude going into the deal, many deals could avoid foreclosure if the borrower is willing to work with the servicer.

With defeasance down, borrowers want to waive escrow requirements or use escrow for items not in the loan documents while others with maturities late into the year are calling servicers asking about refinance options and qualifications for extension options on interest only loans.

Lipson said delinquencies are “creeping up” with property owners asking for extensions after buyers do not meet their pricing expectations. Also, some borrowers in smaller loans are facing maturity default because they did not plan enough time in advance for an exit strategy.

“But we are not seeing properties that have deterioration or a decline in their performance” causing defaults or delinquencies,” Lipson said. “On the other hand, properties that have defaulted or are delinquent for the last three to six months, we are not seeing any uptick in performance.”

Lipson and other industry experts will be discussing the current environment for the commercial mortgage servicer next month in the General Session: Industry Leaders Dialogue—CEOs of Servicing Operations at the Mortgage Bankers Association’s Commercial/Multifamily Servicing and Technology Conference, May 14-16 in Chicago.