On-Demand: 2021 Real Estate Debt Outlook--Dealing with Continued Uncertainty

January 26, 2021

Our panelists discussed the impact of the pandemic on commercial real estate loan performance in 2020 and what to expect in 2021.

 


Transcript

Good afternoon. My name is Lisa Knee and I'm the co-chair of EisnerAmper’s real estate services group. We're happy to welcome you to this timely series real estate in a pandemic focusing specifically on the 2021 real estate debt outlook, dealing with continued uncertainty. We'd also like to thank our friends at Trepp and Proskauer for co-sponsoring today's event. We at EisnerAmper are focused on helping our clients respond to the pandemic and its impact on the real estate market through a wide array of advisory and accounting services, including property level accounting and construction financial oversight. We have published a compendium of articles, which is available on today's screen. Today is the first in a series of webcasts to keep clients and advisors up to date on what's happening in the market and what they should be thinking about as they refine and redefine their business and debt strategies.

Lisa Knee:Our next webcast fraud in real estate will be on February 9th. Today, Our expert panelists will discuss the impact of the pandemic on commercial real estate loan performance in 2020, and what we should expect for 2021. Topics such as forbearance, restructuring trends and the bank's perspective on dealing with bowers asking for relief. Also discussing opportunities in distressed investments for this environment. Wondering if things are going to get worse, if the pandemic continues or will, what we've been hearing about all that dry excess powder out there will that save the day. So our own Joe Reuben senior advisor has provided due diligence on of real estate acquisitions, financings, restructurings, and he will lead today's all star panel and thank you to all of our panelists for participating. So with that, let me welcome, Joe Rubin. Joe, thank you for being here.

Joseph Rubin:Thanks so much, Lisa. It's great to be here. I'm really thrilled that so many people could join us and I'm very, very excited that we have such a great panel of experts and many dear friends who have joined us today to share their insights. So let us just quickly go around the table and introduce everyone. Manus did you want to start?

Manus Clancy:Sure, Joe, thanks for having me today. I've been with Trepp for more than 25 years. We are a data and analytics firm supporting the commercial real estate markets for about 10 years. I headed up our bond modeling team at trip. Later started our banking franchise that focuses on CRE default models and CECL and stress testing and so forth. And most recently I worked on Trump's research and trip wire and podcast presentations. So great to be here.

Joseph Rubin:Thanks Steve L.

Steven Lichtenfeld:Sure. So thanks for having me, Joe, Lisa. So, I'm Steve Lichtenfeld, I'm the co-chair of the real estate capital markets group at Proskauer, we're a global 750 lawyer firm. I focus mainly on representing a combination of REITs, private equity, sovereigns, hedge funds in everything they do as relates to real estate Cooley in 2020, most of our time has been spent on rescue capital workouts, distress debt trades so this is timely I can speak to some of our experiences there.

Joseph Rubin:Great to have you Steve and our other Steve, Steve Schwartz.

Steven Schwartz:Thanks Joe. Thanks Lisa. Steven Schwartz, I'm a partner at Bayside Capital responsible for commercial real estate with a focus on distressed and special situations. Bayside Capital is the distress investing business of HIG Capital, HIG is a $43 billion equity under management, investment manager. I would say about half of that is in typical LBO. The other half is credit and Bayside is about half of the credit work we do. The pandemic has been a super interesting and a great opportunity for us to invest and participate as distressing as it all is.

Joseph Rubin:Thanks, and last but not least R.B. Seem.

R.B. Seem:Thank you, Joe. And thank you Lisa, for having me here today. I am with Wells Fargo bank. I am the investment real estate advisor for the mid-Atlantic division of Wells Fargo in the commercial banking group. And in that role, I support and lead the strategy for investment real estate for the Maryland, Pennsylvania, DC, West Virginia and Virginia markets. And last year was quite a year for advising. In that world we spent a fair amount of time with triage and have shifted into acquisition and some refinancing, but a lot going on. So I'm looking forward to providing some perspectives from balance sheet banks funding.

Joseph Rubin:Great. So as you can see, we've got a very well-rounded panel from different perspectives who will share their views on what's happening in the markets today. And we thought the best way to kick it off might be to kind of get an overview of how loans, commercial mortgage loans have performed in 2020. What's going on right now? And Manus was kind enough to put a couple of slides together from his database to show us what's happening. So Manus I'll turn it over to you.

Manus Clancy:Thanks, Joe. So I'm going to talk about two data sets today, and I'm going to assume that not everybody in the audience is familiar all that much with the CMBS market, but I'll try to go quickly. For those that don't really focus on the CMBS market, the private label market has an outstanding balance of almost 600 billion. At this point probably about two trillion over the last 25 years has been financed through the CMBS market. So it's a really rich data set that gives people a sense of what's happening. I would say that the market share for commercial real estate lending of CMBS is probably about 15% of the market give or take. Servicers in that market provide monthly data on tens of thousands of loans each month from blown status. Whether a loan is 30, 60, 90 in foreclosure to resolution outcomes, loss severity, liquidation proceeds, whether a loan is on watch list or special servicing.

Manus Clancy:You get comments from the workout specialist or special service are talking about how they expect a loan, a forbearance or workout to take place on a quarterly basis. You get things like occupancy, net income, net cash flow, debt service coverage ratio, who the top five tenants are when their leases and so forth. So it's a very, very rich dataset. And we're happy to share these slides, you can reach out to Joe or to me on LinkedIn, we're happy to share them. It's really a tale of two markets, I'll start overall and then we'll dig into property type views. Overall we saw a delinquency rate and this would be 30 or more days, delinquent of 2% as of February, 2020 that peaked in June of 2020 at 10.3%. Since then, we've seen six straight months of declines falling to 7.8% in December, 2020 that was helped of course, by some of the relief that was granted especially to the hotel segment of the market by way of forbearances, use of reserves, et cetera in that part.

So the good in the market industrial in December, 2019, 1.5% of that market was delinquent. As of December 2020 only 1.1% so that part of the market actually improved during the pandemic. The pretty good multifamily went from 2% in December 19 to 2.75% in December, 2020 so less than a hundred basis points of uptick. In the office space, even better, it was just under 2% as of December 19, it went up to 2.2% as of the end of 2020. Now we'll get to the bad, right? The bad is retail and hotel retail ended in 2019 with a 4.4% delinquency rate, that peaked at 18% over the summer and is still 13% as of December, 2020. Even more alarming of that segment has been the fact that if you add up the loans that are with the special servicer and on service or watch list, 40% of all loans in the retail segment are in that category and where there's real distress as most people would expect is in the shopping mall component of that sub segment, this whole hotel area, even worse.

We ended 2019 with a delinquency rate of 1.5% that peaked at 24% in June. We're now still almost a 20% as of December, 2020. And I'll have to take a deep breath before I say this, just under 70% of all CMBS hotel loans are either with the special service or are on service or watch list. And we've seen waves of hotel owners signal that they're ready to give back the keys on the property. So that would include big numbers of properties in Houston and in New York. And we could talk about that a little while later, the second data set is on the bank loan side. It's not something we promote all that often, We're really known for our CMBS data, but we do collect data from CCAR and non CCAR banks via the FR Y-14Q reports. Which is really granular data submitted quarterly to the Fed that these participants also submit to us, which give us a sense of what's happening on the portfolio level for the banks.

And if anybody read Joe's research a couple of months ago, this is a really opaque part of the market because of the waivers given to banks in terms of reporting standards, in terms of what they have to declare is non-performing their ability to give out relief and their ability to not read judge loans on a risk rating basis. That being said, we have about 175 billion in loans that we get quarterly data on. At this point we're starting to see some cracks in that data, even though the overall delinquency rate as of Q3 2020 and preliminary readings from Q4 2020, the overall delinquency rate is just over 1%. And that is so impacted by the fact that borrowers can take advantage of forbearances or lenders cannot classify these as non-performing, but we did see a jump in Q3 of retail jumping up to 3.5% delinquent and lodging, now at just over 5% among the bank portfolio set that we're collecting.

On the occupancy side, multi-family occupancy dip from 96% in early 2020 to 88% overall as of Q3 2020. So we're seeing a little bit of fraying there. We did see among these bank loans occupancy fall from about 70% on average in Q1 2019 to only 22% as of Q3 2020. So just a complete obliteration of demand for hotels. And then lastly, I'll say that what we're starting to see, even though banks don't have to do this is we're starting to see risk rating migration with each of the loans that banks submit data on. They give us their internal risk rating. We normalize this data into a one through nine ranking. And what we're seeing is a lot of loans that were in that one to three bucket earlier in the year, start to migrate into the four or five and six bucket, which is a more serious concern for the bank. And that is largely being found in the retail and hotel segment of the market. And with that, I'll turn it back over to Joe.

Steven Schwartz:Hey manus, sorry. Before you go back to Joe, on the prior slide with the default rates, if you were to compare the post pandemic default rates to the post credit crisis, default rates in terms of magnitude and which asset class is bearing the brunt, any observations?

Manus Clancy:Hotel has already surpassed the worst of the great financial crisis, we peaked today at about 19%. Now we're at 24% for hotels in terms of delinquencies. Retail is slightly above where we were at the worst point, but I'll throw a caveat into that. And that is this, that the great financial crisis, delinquency spread over the period of four years. And towards the end of the crisis, what you were left with was tons of non-performing REO assets and the good stuff had been squeezed out of the system. So in some ways, those high levels that you saw during the Greek financial crisis were a function of adverse selection and only being left with a negative stuff in 2011 and 2012, not from a wave of distress, like we're seeing now due to absence of demand. So I could probably talk about that for about half an hour, but out of mercy to our audience, I'll turn it back to Joe.

Joseph Rubin:Thanks guys. And I do think it's just important to point out again, that when we're looking at bank data, it's fairly artificial because the banks are operating now in this sort of accommodative bubble where they frankly just don't have to tell anybody how many loans are in forbearance so we really don't have much visibility. And when you see the numbers on the chart that Manus has showed us start to go up, you know that those are the loans that in fact they just couldn't forbear on anymore and they had to act and when they act and they have to report. So the forbearance allows that sort of kicking the can down and for better or worse. And I'm not sure which, if it is better or worse. The stimulus package in December extended that accommodative stance all the way till the end of this year. And we'll come back to this question a little bit.

Joseph Rubin:So Steve Lichtenfeld, Manus has talked a little bit and Steve talked a little bit about the difference between the great financial crisis and where we're seeing now. Did you want to add anything to that particular discussion?

Steven Lichtenfeld:Yeah, so that's a great question. And obviously everybody tries to learn from history in terms of what lessons did we learn from the great financial crisis and how can we apply them to the pandemic. And when you think about it, they are just so different and I think what we're finding out is that the lessons that we learned in the GFC aren't necessarily applicable to your COVID situation, COVID was a classic black Swan event. And it was really a health crisis because of the shutdowns and the change in lifestyle permeated the economy and therefore real estate. But the financial impact unfortunately, has been mostly on the lowest wage earners and the most vulnerable and the stock market's done well, tech's done well, financial services has done well, private equity has done well.

And you think about why did that happen? You have obviously a lot of, and we'll talk about this later, a lot of rescue capital sitting on the sidelines in terms of the dry powder. Financial institutions have been amending loans and continue to do to extend them, the Fed's monetary policy has been fairly liberal. And then to give some credit to what happened at the great financial crisis, Dodd-Frank has been effective in reducing or limiting leverage so the financial institutions are not as stressed. In a great financial crisis there really was a systemic unraveling of our financial institutions. I think people freaked out when Lehman blew up, stocks fell and they continued to fall for a number of years, the employment losses really worried every industry and affected every type of wager.

The solvency of the banks was severely stressed. COVID has been scary because of the health issues and the uncomfortable lifestyle, but once the initial shock was absorbed in March, we never felt like we were on the verge of teetering on the edge here from depression. The GFC was not bad, I mean, it was clearly something that we felt like the people that at least understood it, that we were very close to the edge of a systemic breakdown of all financial institutions and insurance companies. So what happened to GFC that were the banks and lenders were shedding their NPLS. And I think somebody touched on this people quickly figured out that the longer you held on to your paper, the more money you lost.

And then the people at the end there really was you now, in terms of hurting the cats, there was like those were truly the dogs and the recovery work, pennies on the dollar. The other thing you did see that people use their advantage in the GFC is that the solvent sponsors were basically able to DPO their lenders discounting pay off their loans. And those sponsors really did make a lot of money as a result of being able to use them utilize some of that financial engineering. Blackstone did that in the Hilton trade and probably that was the most successful private equity trade in history. In COVID I think we've talked about this. I mean, hotels, non-essential, retail, multi-family and condos in high tax, high cost of living cities. Those are clearly stressed.

But the financial institutions had really not been trading a lot of the debt, the debt markets are still functioning pretty well. I mean, KKR just priced a $700 million CMBS still secured by their industrial portfolio. I think that the senior tranche was priced at 55 VPs over liable. And that was $325 million. And that was the best pricing on an industrial portfolio, going back to pre COVID days. So I think what's happened in COVID is, it's accelerated some trends that were already happening in terms of non-essential retail was already stressed, pre COVID because of the online purchasing. There was already a migration out of some of the high tax high cost of living cities like New York and San Francisco. That's clearly accelerated. And so the lessons are very different and the playbook now is different in terms of what's going to happen next.

Joseph Rubin:Thanks. There's one point you made and I wanted to pick up on, which is the fact that there is liquidity in the market, a lot of liquidity, and that of course is really different than the great financial crisis, there is lending going on now. So it's kind of an interesting time. We've some of the distressed piece that Manus has showed us before and that's going to all have to get worked out and there may be more distressed down the road. I'm not suggesting that, that's over necessarily but at the same time, there is lending going on. The CMBS market came back by the third quarter which was remarkable. I mean, 10 years ago, it took three years for the CMBS market to recover and it came back with spreads that are as tight as they were before COVID.

Fannie and Freddie have kept the multi-family market very rich with cash. And so I'd like to ask R.B. from the bank perspective at Wells and other banks – are banks lending now? What are they doing? What are they staying away from? And then a second part of the question is, do you believe that despite the Congress's willingness to let forbearances and kicking the can down the road another year – do you really believe that the banks will let that happen all year? Or do you think sometime in '21, the forbearances will stop and there'll be a day of reckoning for those loans?

R.B. Seem:Sure. And happy to touch on both of those, and I'm going to speak more from the bank sector in general. I've certainly stayed close with some peers at both regionals and some community banks. And a lot of banks are doing a lot of the same things right now, as it comes to lending, as you mentioned. And Steve, as you mentioned, there is a lot better capitalization at the bank level this go round. We have capital, we've got the capacity to see a little bit of stress and as you look back to the beginning of COVID, there was a brief pause across all sectors of lending from banks to agencies, to life insurance companies and CMBS. And we started to see some of that opening back up at the beginning of April in the bank sector and life insurance.

And then CMBS started open up a part of the summer. Agencies were a little earlier than CMBS. And so that quick turnaround from pausing and having a bit of liquidity crunch is a huge difference between the great financial crisis. And today, banks are lending and they're lending across a lot of different asset classes. And I would say that banks are really viewing the market on a continuum based on the asset type and to some degree the location of that asset. Because there certainly are some markets that are impacted differently for different assets, but you know, right now the top tier assets that all banks are very interested in are those credit tenant leases, single credit tenant type facilities your industrial properties that are logistics and specialized type industrial with flex lagging in some markets and you know, New York, DC, San Francisco have all seen some net migration.

So that's impacted the multi-family portfolios. But as we look in the suburban and second tier markets, those multi-family portfolios have seemed so far to be holding up. And Manus I liked hearing some of the feedback that you have on some of those suburban markets and some of the stress that's starting to pop up there. But overall we've been seeing those markets holding pretty well. And the bank side is going to be a bit different than some of the agency and CMBS lenders, because we're going to have a little bit less leverage and some sponsorship probably. Mid-tier retail, as you mentioned, is fairly weak, but that service-oriented retail and grocery anchored or shadow anchored retail has been okay. And has been one of those areas that has still been lendable.

And as we go down, hospitality has been just hit really hard big box retail, non-service-oriented retail. So those are, are difficult, but again bank lending and across the board, we're finding that there are banks out there that are lending on a lot of different asset classes and are focused really on that sponsorship and looking at some of the future. So, looking at the forbearances and how long can this last and what are banks doing even though Congress didn't allow these forbearances to continue without some reporting, I would say, and again, talking to a lot of peers in the marketplace that if there is stress in the asset that is expected to persist and that there was stress pre COVID those assets are going into workout and getting restructured. And those are showing up on workout reports, those assets that really do have short-term stress and have inability to turn around in a fairly short period of time. Had some preliminary forbearance, whether that was through payment accommodations or changing terms through extending certain terms, those assets are being worked out appropriately.

So I think that banks have been really proactive, especially this time around not necessarily hiding things. And working with customers very closely to ensure that the stress that they are experiencing, wanting to understand is this going to be a long-term issue that needs to be resolved through some type of longer termly restructure? Or can we make it through until COVID restrictions are lifted till guests are coming back to hotels? What is it going to take to get things back on track? And you're seeing a lot of collaboration with borrowers and banks to get through this period of time.

Joseph Rubin:Thanks R.B. There was a lot there. Steve Schwartz, I'm wondering if you could chime in from your perspective as a distressed and opportunistic investor. We've started hearing that some of the banks were selling loans already. Is it your observation that instead of doing difficult workouts or certainly instead of foreclosing that the banks are more willing to probably just sell the loans and move on?

Steven Schwartz:Thanks, Joe. Let me take a step back because I think I'm living in a parallel universe. I mean, it seems like you're all saying everything's okay. Everybody's lending, spreads are good. It's all good. Guys, you have to put on a mask to leave your house or apartment, your restaurants are closed mostly. People are eating outside in 30 degree weather because they're so desperate to get out, and not enough of them eating outside. To me, this crisis feels a lot like the three or four crises that I've lived through, they all start differently. The catalyst is always different, but at the end results always the same broken promises, borrowers crying, lenders owning real estate.

So this crisis started and boom, you're right into the liquidity phase of the crisis. Nobody knew how long it would last so they sold everything that they could, that wasn't nailed down. Prices dropped to the floor. Then with talks of  stimulus, we sort of entered into what I'll call the asset management base. Nobody knew what was going on for the first couple of months who was paying rent? Who was paying debt service? What this pandemic really was until you got into this information gathering phase, which to some degree is still going on. That led us into what I'll call the risk management phase of this crisis, which is people selling loans that they have concluded they don't want to forbear on again, or just don't have room for in their portfolio.

Sponsors with money have been buying. We participated early in buying CUSIP that were hard hit. In April we bought some single asset, single borrower, CMBS deals, some bonds in those deals, when those hotels first closed. I don't want to quite say for pennies on the dollar, but at significant discounts. And for those of you in the audience, a single asset, single borrower deal, these are CMBS deals secured by generally iconic trophy properties, lots of hotels all of which names you would recognize.  When those hotels closed, bonds in those deals went begging. The owners of those bonds needed liquidity and, or they were forced by their lenders to sell. Now, for the most part, those hotels are still closed, or many of them are,  but we've since traded out of most of those early bonds that we bought at discounts for par.

I mean, within a stone's throw of par, why? Because the Fed pumped a significant amount of  money into the economy. It does not feel like the fundamentals justify those prices. When we sort of got out of that phase, the liquidity phase and entered the asset and risk management phases, absolutely Joe. We've seen lenders marketing loans, a lot more loans have been marketed than have been sold. And that's a function of price expectations by lenders. Some lenders, they just don't control their destiny. They may be a debt fund that in fact, borrows money from another bank so  they can make loans. Even though their loans are in trouble, they can't sell below a certain price because their bank won't accept that. So we've seen some false starts, but the banks that are ultimately the decision makers have in fact started to sell.

With some of the selling we’ve seen, the first wave of forbearances were ending or had ended. The lenders know a second forbearance is necessary, but they've been reluctant to enter into it. Or, for whatever, reason believe this loan doesn't have a place in their portfolio. The price expectations, pre vaccine talk, got more and more realistic. The more sales there were, the more visible marks there were and the more it became clear that this was where they should be marking that loan.  Said differently, this is where they can sell that loan. With the talk then the introduction of a vaccine, there has been increased optimism and price expectations have gone up. , But I very much believe we are still going to see a solid pipeline of loan sales but with higher price expectations. We're still going to see a fair amount of loan sales this year from banks who don't want to deal with further forbearance or the headache of managing a broken credit.

Joseph Rubin:And Steve, there's obviously lots of others buying like you. And it's interesting, you mentioned that there is a bid-ask spread there and that's held that seems to suggest that the distress buyers having tried to out-compete each other and just win the deal to fill their portfolios. That they've been fairly disciplined and they need to maintain their yield, right? Because you guys all have very high yield expectations. So, it's hard, I guess, to run it and then run back out. And it sounds like what's happening?

Steven Schwartz:Yeah, you're right, Joe. There is discipline. I won't say everybody's disciplined. And frankly, sometimes it's not a question of being undisciplined. It's a question of, "Hey, I know that asset, I own a property around the block. I've got information the next guy doesn't have, I could pay more." But that's within a range and that range seems to be holding. So, yes, there is absolutely discipline on the part of the debt funds like ours. We'll see what this year brings. We'll see if everyone remains grounded -- it's easy when things are pretty dark out there to hold your ground. But with a vaccine, with some positive signs in the economy, it wouldn't surprise me if you started to see buyers meeting sellers rather than sellers meeting buyers, which is what we saw in the fourth quarter.

Joseph Rubin:Yep. And you know, it's true. I said it quickly earlier, the impact of the pandemic isn't over. Even if the pandemic God-willing ends this year, sooner than later, the economic impact will be with us for a while. And if you look at prior cycles, it takes awhile for some of the distress to work through. And I'm particularly concerned about the employment situation because as we all know, job growth is kind of the fuel of the real estate industry across property types. And we're going to have to pick up another seven or eight million jobs before we get job growth.

By the way, that was about the same number as coming out of the great financial crisis. That time it took about eight years to fill that gap. And hopefully this time it'll be a lot faster, but without that job growth, demand for multi-family for office, for all of this stuff will also be hindered. So, so given all of that Steve, I'll start again. I'll start with you Steve Schwartz and then I'd like the others to chime in. Are you providing rescue capital equity, rescue capital to owners or do you see a lot of people rushing in because usually the first step in a restructure for people who have a liquidity issue is to get some fresh equity capital in the door and then go to their banks.

Steven Schwartz:Yeah. You know, it's interesting, Joe. We've seen more than one situation where the borrower hired a broker to go find rescue capital and the bank is out and they've hired a broker to sell the loan. So if I have my choice, I'm buying the loan and we have bought loans. We have bought mezzanine loans, we bought mortgage loans. We bought CUSIP, we haven't provided rescue capital. I'm not opposed to it, but on a risk adjusted basis, the mortgage is the better way to go if I can buy them both.  If we can't buy them both then absolutely we’ll do it.  We looked at some rescue capital stuff early days when some of the mortgage REITs were under significant pressure from their repo lenders. There were not many, but a handful that, reached out looking for a lifeline. And we got outbid on all of those and not by a little, by a lot.

Joseph Rubin:Steve L. What are you seeing or how is it, are you working with some clients that are in recapitalizing distress owners?

Steven Lichtenfeld:Yes, I could speak of a couple of deals that have happened recently. One that we did, one that we had a client look closely that we were, as Steve said our client was outbid. Recently Baupost closed a $380 million financing on Extell’s property at Central Park Tower which was publicly reported. This is a billionaire row condo property. The interest rate was 14% and the loan runs through the end of 2021 and then there are some extension options up to 18 months. I think the big play there was, it relieved a lot of pressure from the prior financing that had sales contingencies in there and given the existing market those types of contingencies really weren't all that workable. You also saw the Oak Tree did a $350 million deal with Ashford hospitality, which is a public REIT that owns upscale hotels over 100 of them. And they had seen just to talk about the type of stress that Ashford was under, it ended year end 2019 with kind of a leverage rate of about nine, a little bit about nine X.

And that went to 66X. Oak Tree stepped in once again with this $350 million facility, give them some runway it's 16% interest, which was all paying kinds. Which basically means it's all accrued for the first two years, then 14% thereafter, where then has to get paid in cash. It's a three-year facility with two one-year extensions, it hasn't closed yet. There's also exit fees involved there as that could either be paid in cash, or they get a warrant, which means they have the right to buy the stock about 19.9% of the stock for stock exchange rules at basically the closing price at the time the loan facility closes.

So it's a pretty rich deal, although that's obviously given some of the leverage that you're talking about now, in terms of recourse, those hotels are really not operating you're. You are making a bet that with the vaccine that you're going to get some type of recovery over time, that's going to support at least some kind of refinancing out of this situation. So those are two rescue capital deals that are fairly chunky. There've been others out there, but I would say it hasn't been the Tsunami of the deals that people were thinking might happen primarily because the lenders have kind of played ball with good sponsorship. And where are you going with hotels and non-essential retail now? It's not necessarily stuff that people are looking to take back and have that REO on their books.

Joseph Rubin:Yeah. That capital sounds awfully expensive maybe those are the initial deals. R.B. I'd like your take on this, because something Steve just said, which is that the lenders are working with their good sponsors. Could you just tell us a little bit from a bank's perspective. What are you looking for in a borrower or sponsor as they start to have conversations with you about dealing with a bit of distress on their debt? Can you talk a little bit about that?

R.B. Seem:Sure. And it's an interesting topic that I call it the paradox of recourse because we hear a lot of borrowers that come in and want non-recourse loans because they think that it's going to reduce their risk profile for themselves. What actually happens a lot of times is that, if there's a non-recourse loan on the books, the bank has to move quickly in a stress situation unless the borrower steps up and offer some type of accommodation to help the bank through that situation with recourse. The bank is typically much more accommodative because they have time, there are multiple sources of repayment. And with that time we know that right now hotels are severely stressed. And the thought in the marketplace is that what is going to heal that stress is time. So with that additional time, with borrowers and sponsors that are willing to be forthcoming, have candor provide additional credit enhancements, whether that's through maybe some additional collateral for a short time. There are a lot of things that banks are doing with customers with good sponsorship to make sure there's visibility in there. And so going back...

Joseph Rubin:R.B.?

R.B. Seem:Yes.

Steven Schwartz:Sorry to interrupt. So it's interesting you say that because virtually every loan we bought from a bank has had recourse with it. And so it didn't seem to me like the banks placed much value on the recourse when it came to selling the loans.   The banks we bought from almost didn't care that there was recourse associated with it. Their loan sale team  didn’t pay much attention to it.  . So I'll ask you, is the value of recourse to hospitality guy today worth much compared to what that might have been December of 2019?

R.B. Seem:It depends. And that's a good point too, with differing sizes of banks, I would say you're probably going to find less willingness or ability to work with the bank, depending on the size of that bank. I'm saying many of the large, super regionals and money center banks tend to have a bit more ability to work through some of those issues. Hotel only operators that are highly leveraged that there's not as much value there today. Hotel operators that have diversified businesses that are not only in hospitality certainly have a high ability to, there's still some strengths there, depending on what else they're diversified into. We see, and it's all over the map. We certainly have some hotel operators that are only in hotels that are really stressed and especially if they're airport type locations. We've kind of redefined hotel operations fly to, drive to and drive through.

We've changed our vernacular with that because those fly to hotels have been hit the hardest, the drive to have probably performed the best. And the traditional business drive through have been fairly weak, but still better than flight to. So it is highly dependent. And there's not an easy answer to it, but yeah, I think that the point that you make that smaller banks might not have the same capacity to be patient is accurate. And it's going to be highly dependent on where those banks are located. I mean, we've seen tremendous stress in some of the energy belt, the oil locations, Houston, Texas, Oklahoma there's a lot of stress in those markets because of multiple factors outside of just COVID and that's driving probably different decisions than a more patient bank could have in a less volatile marketplace.

Manus Clancy:One of the big things we've seen this time versus the great financial crisis particularly in hotel and retail is a willingness for the borrower to throw in the towel very quickly. Of course, that's going to be on the non-recourse side of things on CMBS, but in places like New York, Chicago, Portland, and as you said, Houston, Houston, I think we have six or eight hotels with 50 or million or more in debt with a borrower has already signaled we're done. And you think about that from the hotel perspective in that area, they were offered relief in terms of being able to use reserves to keep the loan current. And you had to think that demand would come back at some point yet fairly early in this cycle within three or four months, a lot of borrowers, including some previously well-healed sponsors were ready to throw in the towel. And that was a big difference this time. And we also saw that in retail as well.

Steven Schwartz:By the way, Manus, we bought a Houston loan, a loan secured by a hotel in Houston. And to R.B's point, the bank got little or no comfort from the recourse. We, on the other hand, are very comforted by it and expect that borrower will come to the table with a constructive view on restructuring the loan because of the recourse. We definitely put a modest value on it.

Manus Clancy:That's interesting.

Joseph Rubin:We talked a lot about hotels, which is what everybody's talking about. I'm curious if anybody wants to chime in, on office because as Manus showed us, the office delinquencies have held very well, but I actually saw a report this morning on the Philadelphia office market. The negative absorption was pretty significant in the last quarter of last year. I mean, as leases turn, are we going to see like a real distressed office market? Or do you think that ultimately after the pandemic is over, office will be robust again, and it won't be a problem? It's just you see it in retail, you see it in hospitality right away, because that's the nature of the game we're in. Is it going to be sort of a very, very slow drip to death or is office going to be fine in the end of the story? Anyone have a thought on that?

Manus Clancy:Well, I think what we've seen in so many cities San Francisco and Chicago and other places that the shadow in Houston of course, shadow inventory is huge right now. And as you kind of hinted at Joe, these leases are ten-year leases. And until that lease comes up, your concern is only really a problem. You know, an issue if you think that the tenant themselves has a credit problem, right? So in some ways it's a little bit like multifamily that what you're concerned about is this kind of drip, drip, drip of losing a 100000 square feet here, 200000 square feet there every six months. And all of a sudden you're 95% occupied office is now 60, but as with multi-family, this would take an awfully long time to play out. And it really will depend on what the demographics look like coming out of this.

Joseph Rubin:Yeah, any other thoughts on all of this.

Steven Schwartz:Yeah. Joe, feels like there's another shoe to drop in office and multi-family. I don't think it's going to happen like hotels, multi in particular. But tell me what happens when the eviction moratorium stops. You know, what collection rates right now in multi-family, there are some pretty distressing signed out there. Multi-family maybe moreso than office but a leg down in office wouldn’t surprise me either. Again, neither of these asset classes probably get hit as hard as hospitality did, but wouldn't surprise me to see a consistent stream of multi and office loan sales in the second half of the year.

Steven Lichtenfeld:Yeah. Office is a complete conundrum. I mean, you have a lot of headwinds. There's a lot of sublease space out there. The co-working tenants, including who were big takers of space, pre COVID are stressed. And just in terms of what people want to do. I mean, people want to go back to the office, but I think the days of going back to the office, five days a week are over. And so I think people are rethinking all of that. And then you add to that some of the health concerns and how some of the, that there's a flight to the newer buildings with better circulation as opposed to some of the older stock that it's really going to have potential problems. So I don't think you're going to have, there's a lot of pricing discovery on leases.

And I don't think you're going to really, that's not going to really settle until there's some heard immunity out there and people can say, "Okay, this is what we think the market is. This is what we want to do with our space, as it relates to multi-family." Look, some multi-family super hot, Austin, South Florida and look at New York probably went to back to 2016 levels. So I think there's some macro trends that are problematic as it relates to multi-family as well. And then you've got you know, in some cities and not to pick, look, I'm a new Yorker, but you know, not to pick on New York and San Francisco, but you've got to a regulatory regime, that makes it very hard to underwriters between evictions, rent controls, and other things that are going to be plus potential tax increases. That it makes it's going to continue to stress those kinds of assets.

Joseph Rubin:Thanks, Steve. Yeah, we've only got a couple of minutes left and there was a question about New York city in particular. Anybody else want to share any thoughts on where the New York city real estate market is going? And just a minute or two. Do I have any takers?

Manus Clancy:Well, we've written a couple of stories in our research lately, which was very concerning about the multi-family side of things that the Geary building, which is kind of a high end 80 story building, lower Manhattan. We saw two really high-end long Island city complexes with hundreds or thousands of units a couple more on Midtown West, all of which had the same trend, which is 95, 96% occupied as of Q4 2019, and then starting Q2, Q3 2020 started to show up with 75, 72 in one case 59% occupancy. And that's when you start to get a little bit concerned with these types of properties, does this become the new normal? And in some of these cases you start seeing a DSCR, which is now closing in on 1.0 X long-term, I think this recovers, and I think people come back once the ecosystem is better. But there could be some bumps in the road to Steve S's point before that you got some distress out of this in the meantime especially on the high end.

Joseph Rubin:Thanks Manus. And we're coming to the end of the hour and I want to be respectful of everyone's time. So first of all, I want to thank my wonderful panel. These were great insights, some great and lively discussion. So thanks to Manus and Steve Lichtenfeld, Steve Schwartz and R.B.Seem. I appreciate your time your knowledge. I just want to remind the audience, as Lisa said at the beginning, this is just the first in a series of webcasts on Real Estate in a Pandemic. And the next one will be on February 9th at the same time focusing on fraud in real estate. And interestingly for those of us who live this every day, we don't realize that of all the industries, real estate is second in the incidents of fraud. So it's definitely a topic that you should tune into.

About Lisa Knee

Lisa Knee is a Tax Partner and Co-Leader of the national Real Estate practice and leader for the national Real Estate Private Equity Group with expertise in the hotel, real estate, financial services, aviation and restaurant sectors and is a member of AICPA, New York State Society of Certified Public Accountants and the New York State Bar Association.

About Joseph Rubin

Joseph Rubin has experience working with real estate transactions, governance and reporting and distressed debt restructuring.

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