The commercial real estate sector is currently navigating through turbulent financial conditions, evidenced by a significant rise in loan delinquencies. This worrying trend reflects deeper systemic issues within the sector, notably in office and lodging property markets.
According to a recent survey from the Mortgage Bankers Association (MBA), there’s been a notable uptick in missed payments on loans backed by commercial properties. The delinquency rate for office property loans escalated to 6.5 percent of balances at the end of the fourth quarter of 2023, marking a significant increase from 5.1 percent in the previous quarter. Similarly, delinquency rates for lodging loans rose to 6.1 percent from 4.9 percent, while retail loan delinquencies remained steady at 5 percent. Notably, multifamily property loan delinquencies also saw a rise, albeit smaller, reaching 1.2 percent from 0.9 percent.
The spike in delinquencies can be attributed to several factors. Jamie Woodwell, MBA’s head of commercial real estate research, pointed out that although long-term interest rates have slightly decreased, many properties and loans are still grappling with higher rates, uncertainties regarding property values, and fundamental changes in some property segments. The COVID-19 pandemic has particularly impacted office loans, with persistent work-from-home and hybrid work models driving office vacancies to record highs. Moody’s Analytics has even described the US office market as being in “uncharted territory” with a vacancy rate of 19.6 percent.
The commercial real estate sector faces continued challenges due to high interest rates and lackluster demand. Capital Economics has even forecasted a potential 20 percent decline in office building prices. Researchers warn of a looming crash in the sector, possibly the most significant since 2008, which could severely impact some U.S. banks. Despite this, some segments of the sector, like retail and lodging-backed loans, show signs of recovery since early 2020.
As of the end of December 2023, the overall health of commercial mortgage loans appeared strained. The proportion of outstanding loan balances that were current or less than 30 days late decreased to 96.8 percent, down from 97.3 percent in the previous quarter. Delinquencies of 90+ days or in REO increased to 2.3 percent, and there were upticks in the 60-90 and 30-60 days delinquency brackets as well. Office property loans were the primary drivers of this increase.
The delinquency rates varied significantly among different capital sources. CMBS loans experienced the highest levels of delinquency, rising to 5.1 percent from 4.4 percent. In contrast, other capital sources like FHA multifamily and healthcare, life company, and GSE loan balances showed more moderate increases in delinquency rates.
