“Physical occupancy” rate (tenants living in the apartment) v. “economic occupancy” rate (tenants actually paying rent).
By Wolf Richter for WOLF STREET.
A $481-million loan that had been securitized into a Commercial Mortgage Backed Security (CMBS) in July 2019 by JPMorgan Chase and is backed by 43 apartment buildings with 8,671 apartment units in 25 metros, spread over the Midwest and Southeast, has already been put on the servicer’s watchlist, according to Trepp, which tracks and analyzes CMBS.
The comments of the servicer, KeyBank National Association, on why it put the loan on its watchlist are a sign of our times when eviction bans and work-from-anywhere have changed the equation for owners of apartment buildings.
Most CMBS are backed by many slices of debt from all kinds of properties, thus providing large diversification. This CMBS – JPMCC 2019-MFP – falls into the risky category of “single borrower” CMBS, being backed by only one mortgage. And that mortgage is now causing concerns with the servicer.
When the mortgage was securitized in July 2019, investors were told that the consolidated occupancy rate across all properties was 89.5%. Even with this less than stellar occupancy rate – major renovations of the properties interfered with occupancy, it was said – the debt service coverage ratio (DSCR) was 1.42x, meaning that net operating income from the properties was 42% higher than the mortgage payments. And that sounded pretty good.
“Physical occupancy” v. “economic occupancy.”
The DSCR has now plunged to 0.86x as of the financial statements of the third quarter 2020, according to the servicer’s watchlist comments, meaning that the net operating income is no longer sufficient to cover the mortgage payments. This, according to the terms of the Loan Agreement cited by the servicer’s comments, constituted a “Debt Yield Trigger Event,” which caused the loan to be put on the watchlist.
And the occupancy dropped to 76.5% by the end of the third quarter. That’s the physical occupancy. But the “economic occupancy” – tenants actually paying rent – has dropped further, the servicer comment said.
The servicer’s comments didn’t specify that exact level of “economic occupancy” – tenants actually paying rent. But there are some clues. When the loan was securitized in July 2019, physical occupancy was 89.5%, nonpaying tenants could be evicted, and the operating cash flow was 42% higher than the mortgage payments (DSCR of 1.42x).
Now the physical occupancy rate dropped by 14.5% (by 13 percentage points), as some tenants have left, perhaps to work from anywhere, or they bought a house in the distant suburbs and became part of the land rush.
But eviction bans allow other tenants to remain in their apartments without paying rent. And net operating income from the properties plunged by nearly 40%, driven by a 14.5% drop in the occupancy rate and by an undisclosed number of the remaining tenants not paying rent.
“As a result of the COVID eviction moratorium and tenants not paying rent, the physical occupancy exceeds the economic occupancy,” the servicer notes in the comment.
At securitization, Moody’s rated seven of the nine classes of the CMBS, affecting $435 million of the $481-million deal. It gave its highest rating for CMBS, Aaa (sf), to Class A, which would be the last class to take any losses. At the other end of the spectrum was Class F, which it rated B3 (sf), six notches into junk (my cheat sheet of bond rating scales). Class F would be among the first classes to take losses.
The loan, which has remained current, matures next July, when it would have to be refinanced. But three one-year extension options in the loan agreement could put maturity out to 2024, according to Trepp.
The combined effects of eviction bans and surging vacancy rates in some cities – and plunging rents in some of the most expensive cities – are beginning to percolate through the commercial real estate market. But it’s a slow process. And delinquency rates on multifamily loans remain low.
The delinquency rate of multifamily loans securitized into “private label” CMBS was 2.75% in December, according to data provided by Trepp. While that is up by about 1 percentage point from just before the Pandemic, it remains low compared to the delinquency rates of hotel CMBS (19.8%) and retail CMBS (12.9%). And it remains low compared to the delinquency rates during the Financial Crisis. In the chart, the drop in January 2016 resulted from the delinquent $3-billion loan tied to Stuyvesant Town-Peter Cooper Village in Manhattan getting paid off (delinquency data through December provided by Trepp):
The chart above tracks the delinquency rate for multifamily “private label” CMBS loans, meaning they’re not backed by the government. But they’re only a small part of the huge pile of multifamily debt. And you guessed it, for over half of it, taxpayers are on the hook. Time to take a look. Read… Who Holds the $1.65 Trillion of Apartment Building Debt amid Eviction Bans and Plunging Occupancy Rates at High Rises?
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