For much of 2023, there was increased chatter about the latest possible cataclysm to upend commercial real estate, commonly known as the “wall of maturities.” A flood of articles have described the apocalyptic impact of trillions of dollars of mortgages that are scheduled to come due and need to be refinanced in the next few years.
The danger is that the current high interest rate environment will make refinancing the loans on devalued properties difficult and expensive, resulting in waves of defaults and more pain for everyone involved. A lot of numbers have been bandied about concerning the volume of loan maturities, but according to the Mortgage Bankers Association (MBA), of the $4.6 trillion in existing commercial real estate loans, about $2.6 trillion will mature in the next four years.
This issue became real in February 2023 when Canadian real estate conglomerate Brookfield walked way from $784 million in loans connected to two office towers in downtown Los Angeles. At the time, media outlets reported that Brookfield had made it clear months earlier that it might not be able to refinance debt obligations on the properties. Brookfield was described as a bellwether for where the office market was headed — and it wasn’t alone. That same month, Columbia Property Trust defaulted on about $1.7 billion in debt tied to seven major properties.
The defaults by two high-profile landlords helped to solidify a sense of foreboding, which has continued to this day. In this issue of Scotsman Guide, in fact, author Rob Finlay writes about the refinancing problem (“Scale the Wall of Maturities” on Page 30) and discusses what mortgage originators can do to help mitigate the impact.
What’s unclear is how large this massive wave of refinancing needs will be. Yes, the default rate is up and there have been a few high-profile cases, but the disaster has yet to hit commercial real estate on a wide scale. Is it possible it won’t?
Jamie Woodwell, the MBA’s vice president of research and economics, explains that there are aspects of this problem that industry watchers need to keep in mind. This includes the fact that loan maturities are spread over a long period of time, in a wide variety of industries and in every geographic location, so the results will be as varied as the properties in question.
Other factors may help to lessen some of the damage, or at least spread it out. For instance, Woodwell found that of the $4.6 trillion in commercial real estate debt, nearly $2 trillion is for multifamily properties, a relatively strong sector with typically longer loan terms than other asset classes. Less than 10% of multifamily debt was set to mature in 2023, but there will be more in later years. For instance, about 16% of current multifamily debt will be due in 2032 when the economy is bound to look much different than today.
Woodwell remembers when the MBA began creating its lending survey during the global financial crisis of the late 2000s. There were worries then, too, about a wall of maturities combined with limited capital availability.
“One of the key takeaways that we found then, that I think continues to be true today, is that commercial mortgages tend to be a relatively long-lived asset,” Woodwell says. “You have an awful lot of loan types out there and, among them, commercial mortgages tend to be longer in nature. So, even now in the peak of 2023, with the greatest volume of maturities in our survey, it’s still only 16% of the total outstanding balance.”
Inflation was also reported to be falling quickly at the end of 2023 and Federal Reserve members have said that rate cuts are in the offing. Such a move would greatly lessen the sting of refinancing.
That’s not to say that commercial real estate isn’t stressed. Property values have cratered, with Capital Economics recently estimating that overall commercial real estate values fell 11% in 2023 alone and are expected to shed another 10% this year. The office sector, alone is expected to lose another 20% in 2024.
Woodwell says there’s a great deal of uncertainty about where property values stand. But it’s clear that delinquencies are on the rise. Woodwell points out that, through the first 10 months of last year, delinquencies rose in all asset classes, with the office delinquency rate exceeding those of hospitality and retail for the first time since the onset of the COVID-19 pandemic. “We are seeing stress in the market,” Woodwell says. “Pretty much every capital source has reported an increase in delinquency rates.”
One sector that may do better than expected is retail. Capital Economics expects retail valuations to increase by 6% per year through 2028. Plenty of retail sites remain under stress, but Chris Angelone, the co-leader of JLL’s national retail group, believes that poorly run operations have already been flushed out, so the owners now in place at the better-performing malls are often the best operators. Lenders would be loathe to take back those properties when quality operators are already in place.
“I think, generally speaking, that lenders are going to work with their borrowers on performing assets,” Angelone says. “But obviously, the valuations are going to be much different than before.” ●