Office Properties Take Historic Dive, Outpacing 2008 Declines

Good morning,

Office properties take historic dive, outpacing 2008 declines, loan delinquencies mount, Fed signals higher rates are the new normal, and home sales drop to seven month low. Let’s delve into today’s topics.

📈 Market Update

🏢 Office Properties Take Historic Dive, Outpacing 2008 Declines

The office sector continues to face an unprecedented downward trajectory, with CMBS-financed office assets facing reappraisal reductions of 12.8% in 2022 and 14.1% so far in 2023 - exceeding the 11.3% markdowns seen during the 2008 financial crisis. This massive value erosion totals over $17B just within distressed CMBS loans.

Office Sales Stalled As Values Plummet:
The office investment sales market continues to struggle, with large asset sales lagging well behind pre-pandemic levels. Through August, only 29 office transactions above $100M traded, totaling just $5.6B, a fraction of 2021 and 2022's volume. The deals getting done are chiefly discounted value-add plays, single-tenant assets, or niche property types, while core stabilized office trades remain sparse.

📈 Loan Delinquencies Mount

Office properties in major cities like Chicago, Denver, Philadelphia and San Francisco are experiencing escalating distress, with CMBS delinquencies jumping to 6.8% nationally - up from 4.5% last summer.

Tides Loan Workout Details Emerge:
Tides principals touted recent loan modifications as a lifeline for their distressed multifamily portfolio, but the changes revealed by ratings agency DBRS Morningstar tell a more nuanced story. While maturity extensions and rate cuts offer near-term flexibility, lender MF1 also injected costly preferred equity and tightened future funding access. With renovations key to boosting property cash flows, the workout terms raise questions about Tides' turnaround capacity amid still-elevated loss expectations.

Aareal Bank Unloads Another NYC Loan as Portfolio Cleanup Continues:
German lender Aareal Bank is moving aggressively to offload troubled debt, putting its $65M loan on the under-leased Chelsea office building 229 West 28th up for sale - the third distressed New York property loan it has recently shed. With maturities swelling and profits falling, Aareal appears to be proactively clearing out non-performing loans rather than waiting for borrower defaults.

🔃 On the Flip Side - Opportunities Arise:
Despite mounting struggles borrowers and plunging property values, Apollo sees rich opportunities on the horizon to provide rescue financing and capital for troubled loans and assets. With extensive dry powder, Apollo appears poised to capitalize on discount acquisitions and distressed debt plays as fundamentals deteriorate further.

🏦 Fed Signals Higher Rates are the New Normal

In updated economic projections, Fed officials hinted that neutral interest rates have risen, meaning rates will stay elevated compared to the ultra-low levels of the past decade. With inflation still high and federal deficits swelling, the Fed sees a need for tighter policy to stabilize growth and prices over time. Though the neutral rate forecast remains uncertain, CRE should prepare for meaningfully higher borrowing costs to persist long after the current hiking cycle ends.

🏘️ Home Sales Drop to Seven Month Low

Existing home sales fell to a seven-month low in August as limited supply, elevated prices, and mortgage rates above 7%. With inventory tight and prices still climbing double-digits annually, homebuying demand is likely to remain muted until rates moderate. Though the robust job market offers some support, substantially more supply is needed to cool home price appreciation.

✍️ Further Reading

• EXCLUSIVE: Investcorp Pays $216M for Industrial Portfolio (CPE)

• Why Dollar General Might Just Be the Worst Retail Job in America (BBG)

• New York Landlord RXR Realty Says It’s in Talks With WeWork Over Space (CS)

• CRE Lenders Respond to Uncertainty With Extensions (GS)

📊 Chart of The Day