A $90 billion wave of maturing commercial mortgages, leftover debt from the 2007 lending boom, is laying bare the weak links in the U.S. real estate market.
It's getting harder for landlords who rely on borrowed cash to find new loans to pay off old ones, leading to forecasts for higher delinquencies. Lenders are now choosier about which buildings they fund, concerned about overheated prices for properties from hotels to shopping malls, and record values for office buildings in cities. Rising interest rates and regulatory constraints for banks also are increasing the odds that borrowers will come up short when it's time to refinance.
"There are a lot more problem loans out there than people think," said Ray Potter of R3 Funding, which arranges financing for landlords and investors. "We're not going to see a huge crash, but there will be more losses than people are expecting."
Borrowers holding commercial real estate outside major metro areas are feeling the pinch as they attempt to secure fresh financing, Potter said.
The delinquency rate for commercial mortgages that have been packaged into bonds is forecast to climb by as much as 2.4 percentage points to 5.75 percent in 2017, reversing several years of declines, as property owners struggle with maturing loans, according to Fitch Ratings. That sets the stage for bondholder losses.
Banks sold a record $250 billion of commercial mortgage-backed securities to institutional investors in 2007, and lax lending standards enabled landlords across the U.S. to saddle buildings with large piles of debt. When credit markets froze the next year, Wall Street analysts warned of a cataclysm, with $700 billion of commercial mortgages set to mature over the next decade.
"At the depths of the panic, it was just that: panic," said Manus Clancy, a managing director at Trepp LLC. "That made people's future expectations extremely bearish. Extremely low interest rates over the last four or five years have forgiven a lot of sins."
However, S&P analysts are predicting that about 13 percent of real estate loans coming due will ultimately default, up from 8 percent over the past two years, according to Dennis Sim, a researcher at the firm.
"There are a lot of headwinds currently — with the interest-rate increase, with the new administration coming in, and also risk retention," Sim said. "Those three wild-card factors could also play a role in how some of the better-performing loans are able to refinance or not."
Mulholland is with Bloomberg News.
