While landlords are muttering, “And this too shall pass.”
By Wolf Richter for WOLF STREET.
The award-winning luxury-apartment property NEMA San Francisco, with 754 units in four linked towers completed in 2013, on the corner of 10th Street and Market Street (NEw MArket, get it?), has become part of the story of suddenly and deeply plunging occupancy rates as a large number of tenants have packed up and left during the Pandemic.
For the three largest towers, the occupancy rate has plunged to 70% as of September, according to data by Trepp, which tracks commercial mortgage backed securities (CMBS). The occupancy rate of the smallest building as of September is not available. But as of June, it dropped to 80% and may have deteriorated further since then. The four towers are across the street from Twitter’s headquarters, part of which Twitter is now trying to sublease because it won’t need that much space, after its switch to work from home (image via NEMA):
Each of the four towers, ranging from 10 stories to 35 stories, is collateral of a mortgage that total $274 million. The 10-year interest-only mortgages, a fairly typical arrangement, have been securitized into a “private-label” CMBS.
The other day, I noted that the occupancy rate of the iconic wrinkled-appearing “New York by Gehry” tower with 899 apartments in Manhattan had plunged from 98% in 2019 to 74% by September. This plunge in occupancy rate was the reason the $550 million loan, the only asset backing a “private-label” CMBS, had been put on the “servicers watchlist.”
“Private label” means the CMBS are not guaranteed by taxpayers via Ginnie Mae, Fannie Mae, or Freddie Mac that after the Financial Crisis have waltzed energetically into issuing multifamily CMBS and have taken on an ever-larger market share, with the market share of private label CMBS shrinking. And to halt and reverse the meltdown of the CMBS market in March and April, the Fed has bought $9.3 billion of those taxpayer-guaranteed multifamily CMBS within a few weeks, which did the trick.
The taxpayer-guaranteed CMBS that are backed by high-rise apartment properties have the same problems as private label CMBS: plunging occupancy rates in certain markets.
But the taxpayer is for once not on the hook for the NEMA and New York by Gehry loans, and the Fed has not bought them. Investors have to deal with them.
The NEMA property, owned by real estate development company Crescent Heights, includes over 11,000 square feet of rentable retail space, when retail has essentially shut down.
Of the 754 apartments, 664 are market-rent units without restrictions, and 90 are “affordable-rent” units under San Francisco’s Inclusionary Housing Program.
The numerous units advertised as available for rent on NEMA’s website start with tiny studios of 476 square feet and go to a 2-bedroom, 2-bath unit with 1,442 square feet. But it’s going to be tough to fill them. There are estimates that 89,000 people have left San Francisco from March through November 1, according to USPS data. The median asking rent of one-bedroom apartments has plunged by 27% since June 2019. And you guessed it…
“Three months free” translates into an effective rent over 15 months that’s 20% lower than nominal rent. Landlords could cut the asking rent by 20% and forget the “three months free,” but their lenders, seeing documented on paper what this would do to cash flow, would have a cow. Plus there’s the hope that tenants would stick around for longer than 15 months.
The two largest NEMA loans form the only assets in the CMBS issued by Natixis, “NCMS 2019-NEMA” – a single-asset CMBS like the CMBS backed by the New York by Gehry property. And the occupancy rate of the towers that form the collateral for the CMBS was 70% at the end of September.
When Moody’s last rated five tranches of this NEMA CMBS in April 2019, it said that the occupancy rate was 94%. It assigned its highest rating for CMBS, “Aaa (sf),” to the top tranche and gushed:
“The property is a Class A newly constructed multifamily, with premium amenities expected in a high end luxury development, including an on-site subterranean parking garage, large modern fitness facility, door to door package delivery service, and approximately 30,000 SF of outdoor space designed to reflect Northern California’s diverse landscapes.”
Despite the plunge in occupancy rates, and despite the reduced cash flows due to the plunging occupancy rates, all four NEMA loans are marked as “current,” according to Trepp’s data. And they have not been moved to a special servicer, which would be an early warning of a potential delinquency.
And this has been the case more broadly. The delinquency rate for private-label multifamily CMBS was 3.1% at the end of November, according to Trepp’s update a week ago, in the same range where it had been before the Pandemic. By contrast, hotel and mall CMBS delinquency rates, despite widespread forbearance agreements, have shot up to 19.7% and 14.2% respectively.
For now, landlords with apartment towers whose occupancy rates have plunged are mostly dipping into reserve funds and are making payments on their mortgages, thinking, “This too shall pass” – “this” being the sudden phenomenon of tenants moving out and leaving apartment towers behind and relocating to the suburbs or further afield, to cheaper pastures and to places without elevators.
Many multifamily mortgages have not been securitized. They’re held by banks, particularly regional banks, by insurance companies, and others. According to the Mortgage Bankers Association, lending on multi-family properties has plunged 31% in the third quarter compared to a year ago: with occupancy rates this low and potentially still falling, landlords who want to sell and potential buyers appear to be too far apart, and lenders won’t lend.
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