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North American CMBS Loan Default And Loss Study: Defaults Improved In 2018, But Losses Worsened

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North American CMBS Loan Default And Loss Study: Defaults Improved In 2018, But Losses Worsened

U.S. and Canadian commercial mortgage-backed securities (CMBS) annual loan defaults declined in 2018 as S&P Global Ratings had expected, though at a surprisingly low magnitude of just 97 defaults compared to the 555 defaults in 2017. The drastic decline in loan defaults mainly reflects the significantly less loan maturities in 2018.

However, average loss severity took a turn for the worse, increasing to 39.45% in 2018 from 34.82% in 2017, when it showed signs of easing. North American CMBS loss severity has been bouncing back and forth between the low- and high-30% range since 2015. The 2018 loss results reflect a lag effect from the 2005-2007 vintage defaults, which comprised 90% (by loan count) of the loan resolutions involving losses.

Key Findings

The following summarizes our primary observations from the current study.

Defaults
  • Annual loan defaults dropped to 97 in 2018 from 555 in 2017. Overall, 13,371 loans in the studied loan population are classified as defaulted, up from 13,274 in 2017 and 12,719 in 2016.
  • By loan count, the cumulative default rate broke the increasing trend observed since 2008, decreasing marginally to 18.30% in 2018 from 18.39% in 2017 and 17.73% in 2016.
  • By original principal balance, cumulative loan defaults were $177.77 billion in 2018, or 15.62% of S&P Global Ratings' $1.14 trillion studied loan population.
  • The 2009 and 2011 vintages stand tall as the only unblemished vintages, while the 2007 and 2008 vintages continue to attract attention for the wrong reasons--each crossing the 30% default rate threshold in 2018.
  • Retail and office continued to exhibit the highest cumulative loan default counts, at 4,279 and 2,991, respectively.
Losses
  • Annual losses declined approximately 30% to $3.42 billion in 2018 from $4.87 billion in 2017.
  • Cumulative losses totaled $45.78 billion through December 2018, for a cumulative loss rate of 4.02%.
  • After easing in 2017, the average loss severity rate among loans resolved with losses increased to 39.45% in 2018.
Resolutions
  • After a relatively flat 2017, the average loan resolution time for loans experiencing losses exceeded 40 months for the first time, increasing to more than 42 months.
  • The number of loans resolved with losses recorded fell approximately 42% to 374 in 2018 from 640 in 2017. Through December 2018, 12,734 (95.24%) of the 13,371 defaulted loans were resolved (irrespective of whether any losses were registered).
Defaults plummet

Loan defaults fell in 2018, which came as no surprise, since the 2007 vintage loans have crossed their 10-year maturity mark and the studied loan population includes just 116 loans from the 2008 vintage. Only 97 loans defaulted in 2018, down from 555 defaults in 2017 (see chart 1). We expect this decline to continue, albeit at a slower rate, since CMBS 2.0 loans (loans issued in 2009 and after) were more conservatively underwritten than their CMBS 1.0 predecessors.

Retail loans represented approximately 62% (60 loans) of the loan defaults in 2018, reflecting market concerns surrounding retail performance. Overall, loan defaults for the entire study period (1993-2018) increased to 13,371, resulting in a 18.30% cumulative loan default rate.

Chart 1

image

Loss severity saw an uptick

Average loss severity increased to 39.45% in 2018 from 34.82% in 2017, continuing the trend of the loss severity metric tightly oscillating around the mid-30% average rate since 2015 (see chart 2).

The average resolution time for loans resolved with losses crossed the 40-month threshold for the first time and increased to over 42 months. However, the number of loans resolved with losses declined approximately 42% to 374 in 2018 from 640 in 2017.

Chart 2

image

After nearing $5 billion in 2017 (a level breached each year from 2011 to 2014), annual dollar losses dropped to a decade-low $3.42 billion, approximately 30% below the $4.87 billion lost in 2017 (see chart 3). On a cumulative basis, dollar losses through year-end 2018 totaled $45.8 billion, or 4.02% of the study's aggregate original principal balance.

Chart 3

image

Credit Performance By Vintage Year And Property Type

The 2009 and 2011 vintages held their ground, while the 2007 and 2008 vintages lost more of it

The 2007 and 2008 vintages continued to attract attention for the wrong reasons, with each crossing the 30% default rate threshold in 2018 (see table 1). These two vintages will likely hold this "distinction" for some time, since the 2006 vintage--the third-worst performer--has just 141 performing loans outstanding, which caps its maximum potential default rate at 28.52%. The 2006, 2007, and 2008 vintages have also recorded the three highest cumulative loss rates, at 6.97%, 7.53%, and 5.06%, respectively (see table 2).

On the other hand, the 2009 and 2011 vintages continue to hold their ground. After crossing their peak term default periods (historically years 4-6 of a loan's life) unscathed, they are now bracing themselves to cross their respective 10-year maturity finish lines.

Table 2

Cumulative Default Rates By Vintage And Aging
Cumulative default rate (%)
Vintage year Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 Year 10 and beyond
1993 0.00 0.00 0.00 0.00 0.71 0.71 2.14 2.14 3.57 5.71
1994 0.00 0.00 0.54 1.08 1.62 2.69 3.59 4.13 5.03 5.57
1995 0.00 0.44 1.25 1.76 2.42 3.38 6.39 8.52 9.55 10.87
1996 0.05 0.70 2.58 3.38 4.64 6.70 8.11 9.38 10.22 12.56
1997 0.07 1.06 2.01 3.40 5.47 6.79 8.67 10.19 10.78 13.16
1998 0.31 0.86 1.55 2.91 4.07 5.36 6.41 7.34 7.69 11.53
1999 0.11 0.47 1.90 3.05 4.59 5.42 6.10 6.42 7.18 14.00
2000 0.18 2.10 3.91 5.83 7.67 8.52 9.11 9.99 11.28 20.39
2001 0.23 1.10 2.53 3.66 4.64 5.17 6.07 7.73 10.36 19.02
2002 0.32 0.68 1.50 2.34 2.87 3.55 5.31 7.18 8.71 13.31
2003 0.20 0.65 1.15 1.55 2.52 3.69 6.21 7.52 8.49 12.11
2004 0.07 0.68 1.06 1.50 5.79 8.18 10.87 12.04 12.89 16.66
2005 0.17 0.60 1.11 3.52 9.40 12.52 14.80 16.00 17.00 21.45
2006 0.19 0.85 4.22 9.81 14.88 17.79 20.00 21.28 22.33 27.07
2007 0.38 3.00 8.71 13.34 18.16 21.03 22.72 23.65 24.52 30.05
2008 1.72 10.34 15.52 18.10 19.83 21.55 24.14 25.00 25.86 31.90
2009 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
2010 0.00 0.00 0.00 0.00 0.00 0.34 0.34 0.34 0.68
2011 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
2012 0.00 0.00 0.48 0.96 1.61 1.61 1.61
2013 0.00 0.13 0.26 0.51 1.41 1.79
2014 0.00 1.63 2.98 3.52 3.52
2015 0.00 0.00 0.80 0.80
2016 0.00 0.23 0.23
2017 0.00 0.34
Average 0.20 1.10 2.93 5.16 8.16 10.04 11.75 12.89 13.84 18.30

Table 2

Cumulative Loss Rates By Vintage And Aging
Cumulative loss rate (%)
Vintage year Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 Year 10 and beyond
1993 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
1994 0.00 0.00 0.00 0.00 0.00 0.00 0.18 0.24 0.38 0.75
1995 0.00 0.00 0.02 0.03 0.04 0.07 0.29 0.91 1.67 2.60
1996 0.00 0.00 0.01 0.04 0.06 0.16 0.31 0.62 1.14 2.16
1997 0.00 0.00 0.01 0.04 0.16 0.53 1.02 1.48 2.28 3.26
1998 0.00 0.00 0.02 0.08 0.29 0.57 0.87 1.08 1.23 2.60
1999 0.00 0.00 0.00 0.33 0.46 0.64 0.90 0.99 1.02 2.23
2000 0.00 0.00 0.04 0.14 0.39 0.64 0.78 0.85 0.93 2.82
2001 0.00 0.02 0.03 0.10 0.22 0.42 0.48 0.55 0.82 3.02
2002 0.00 0.02 0.06 0.11 0.25 0.29 0.31 0.67 0.94 2.36
2003 0.00 0.01 0.02 0.05 0.07 0.13 0.31 0.67 0.96 2.05
2004 0.00 0.00 0.00 0.07 0.11 0.27 0.54 0.94 1.44 2.98
2005 0.00 0.01 0.02 0.05 0.30 0.94 1.66 2.28 2.81 4.68
2006 0.00 0.00 0.02 0.26 0.93 1.82 2.82 3.96 4.54 6.97
2007 0.00 0.01 0.12 0.83 1.75 2.49 3.69 4.41 5.23 7.53
2008 0.00 0.00 0.21 1.42 1.47 1.78 3.15 3.18 3.48 5.06
2009 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
2010 0.00 0.00 0.00 0.00 0.00 0.00 0.06 0.06 0.06
2011 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00
2012 0.00 0.00 0.00 0.00 0.00 0.00 0.00
2013 0.00 0.00 0.00 0.01 0.01 0.03
2014 0.00 0.00 0.00 0.00 0.00
2015 0.00 0.00 0.00 0.00
2016 0.00 0.00 0.00
2017 0.00 0.00
Average 0.00 0.00 0.03 0.23 0.56 0.99 1.53 2.02 2.45 4.02
Defaults: Retail can't buy a break

Retail remained the worst performing property type in terms of cumulative defaults by loan count, accounting for 4,279 of the 13,371 defaults through 2018. In addition, the sector accounted for 62% of the defaults (60 of the 97) in 2018, which came as no surprise. Retail continued to experience a lot of turbulence in 2018, with several big box retailers announcing bankruptcies and related store closures (including Sears/Kmart, Toys R Us, Mattress Firm, and Bon-Ton).

Office retained the second-worst spot in terms of cumulative defaults by loan count in 2018, with 2,991 cumulative defaults. It also ranked second by annual defaults, contributing 14 of the year's 97 defaults. The emergence and subsequent popularity of innovative shared office space providers, led by the likes of WeWork Companies Inc., pose potential concerns around future office loan defaults. Office also continues to lead in terms of share of total losses, at 32.74%, remaining just ahead of retail.

Table 3

Cumulative Defaults And Losses By Property Type
Property type Studied loans Cumulative defaulted loans (December 2018) Cumulative defaulted loans (December 2017) Cumulative defaulted loans (December 2016) Cumulative default rate (% by loan count) Original principal balance (bil. $) Cumulative default balance (bil. $) Cumulative default rate (% by original principal balance) Cumulative losses (bil. $) Cumulative loss rate (% by original principal balance) Share of total loss (%)
Retail 22,688 4,279 4,219 3,945 18.86 291.15 47.84 16.43 14.78 5.08 32.28
Multifamily 19,369 2,780 2,775 2,751 14.35 170.69 30.75 18.01 5.88 3.44 12.84
Office 12,120 2,991 2,977 2,812 24.68 318.37 55.81 17.53 14.99 4.71 32.74
Lodging 4,916 1,310 1,305 1,279 26.65 166.12 21.20 12.76 5.17 3.11 11.30
Industrial 4,830 812 810 781 16.81 45.89 7.77 16.93 2.01 4.37 4.38
Self storage 3,043 246 246 241 8.08 16.44 1.08 6.58 0.21 1.26 0.45
Manufactured housing 2,377 252 249 241 10.60 18.78 1.66 8.83 0.58 3.10 1.27
Mixed-use 2,083 408 402 387 19.59 48.57 5.04 10.37 1.08 2.22 2.35
Other(i) 895 139 137 128 15.53 51.79 5.41 10.44 0.82 1.57 1.78
Health care 756 154 154 154 20.37 10.04 1.22 12.17 0.28 2.75 0.60
Total 73,077 13,371 13,274 12,719 18.30 1,137.84 177.77 15.62 45.78 4.02 100.00
(i)Other, special purpose, and various.
Multifamily loss severity rates spike

In 2018, multifamily's average loss severity rate for resolutions involving losses took an about turn from 2017, when it plunged to its lowest annual level in almost 20 years. Multifamily almost tied office in 2018 for the worst performing property type, with a loss severity rate of 43.60%--just shy of the 43.68% recorded by office (see table 4). However, a deeper dive into the data shows that only 11 loans generated this loss for multifamily, whereas the loan count for office was 125.

Still, this acute spike in loss severity rate did nothing to change multifamily's position among major property types in terms of aggregate period loss severity, where it registered the best performance at 34.41%. On the other hand, lodging remains the worst performer amongst the majors, with a 42.85% average loss severity.

Table 4

Average Loss Severity Rate By Property Type And Year (Loans Resolved With Losses)
Resolution year/loss severity rate (%)
Property type 2018 2017 2016 2015 2014 2013 2012 2011 2010 2009 2008 2007 2006 2005 2004 2003 Aggregate period(i)
Retail 39.21 36.21 33.63 31.15 39.85 42.15 45.89 48.37 50.09 37.40 14.21 20.04 18.42 30.45 31.13 47.53 40.83
Multifamily 43.60 19.96 29.66 25.38 36.34 28.41 35.91 38.02 46.94 49.42 25.52 28.98 22.05 23.97 25.81 27.68 34.31
Office 43.68 37.44 47.15 37.88 44.46 45.48 43.68 41.34 42.68 38.89 14.32 25.63 27.06 23.04 31.74 32.46 41.24
Industrial 39.29 39.96 34.60 29.81 38.01 37.72 35.70 39.36 44.37 28.82 5.04 37.58 28.00 32.52 33.16 46.83 36.69
Lodging 38.74 40.55 44.65 34.56 45.97 42.17 46.06 48.75 48.80 38.60 17.71 24.89 32.37 35.83 39.49 54.06 42.85
Self storage 2.87 12.27 10.15 10.29 46.06 25.07 35.81 33.92 38.96 32.09 0.78 0.60 43.40 1.20 54.91 37.68 29.91
Manufactured housing 17.54 31.11 29.17 48.35 45.76 38.96 45.53 44.54 49.30 48.48 6.46 11.64 40.79 30.85 52.07 57.46 40.54
Mixed-use 27.10 27.43 32.00 46.66 41.76 49.17 38.73 47.40 38.59 21.16 1.30 16.00 33.02 38.16 21.61 0.00 38.62
Other(ii) 27.16 18.29 37.92 46.74 30.95 33.80 47.79 38.42 35.16 40.29 -- -- 29.90 0.05 27.53 0.00 35.64
Health care 0.38 0.00 -- -- 0.37 0.87 8.79 29.87 36.70 14.78 32.32 24.49 47.27 30.25 63.59 81.29 49.91
Total 39.45 34.82 37.87 33.44 41.00 39.95 42.14 43.30 46.60 41.57 18.49 26.49 26.48 27.86 35.56 48.38 39.37
(i)Reflects 1998-2018 performance. (ii)Other, special purpose, and various.

Steady Performance Expected In 2019

With the more conservatively underwritten CMBS 2.0 loans taking the front seat going forward, we expect annual defaults to remain generally low in 2019--barring any major shifts in market fundamentals--because there were only a handful of 2009 vintage loan originations.

Nevertheless, we will continue to monitor the constantly shifting retail landscape, including store closures and prominent retailers filing for bankruptcy. So far this year, two sizable mall loans, Mall of Acadiana and Independence Mall, were resolved with steep losses. Mall of Acadiana resolved at an approximately 56% loss severity, while Independence Mall was recently sold at a price implying a greater-than-75% loss severity. We expect these more dramatic loss instances will be balanced by smaller loss resolutions, and we don't believe average loss performance in 2019 will differ meaningfully from that of recent years.

Further, although standards appears to be loosening among recent conduit deals, with loan-to-value ratios increasing, debt service coverages declining, and interest-only loan issuances rising (see " U.S. CMBS Conduit Update Q4 2018: Metrics Deteriorated A Bit, Stable Ratings Expected In 2019 With Some Caveats," published Jan. 9, 2019), we don't expect any near-term performance impact from these loans since they're still years away from their peak term default periods and refinancing thresholds. The upcoming year should be a steady one for CMBS performance.

Appendix

An Overview Of Our Study Methodology And Definitions

This report details the default and loss trends we've observed for commercial real estate loans in S&P Global Ratings-rated CMBS through year-end 2018. The CMBS population we studied includes 73,077 loans originated for securitization from 1993 through 2017 with an aggregate $1.14 trillion original principal balance. As in prior studies, we only include loans that have seasoned for at least one year.

The following are definitions of some common terms we refer to in this study.

Defaulted loan

We consider a loan to be defaulted when it becomes 60 days delinquent for the first time. This 60-day delinquency date is based on either an actual reported date, or an imputed date based on, for example, a reported 30-day delinquency date and a reported 90-day delinquency date. Even if a loan's 60-day delinquency status is cured later in its life (and its credit status is reclassified as "current/performing"), we would still record it as a defaulted loan for the study.

Cumulative default rate

The cumulative default rate is the ratio of the number of defaulted loans to all of the loans in the study. Unless we state otherwise, this definition is based on loan count only and is not weighted by the loans' original principal amounts.

Resolved loan

We consider a defaulted loan to be resolved when the loan balance is reduced to zero, through, for example, a full payoff, discounted payoff, note sale, or real estate-owned (REO) disposition.

Resolution time

Resolution time is calculated as the time between default and resolution.

Loss severity rate

For an individual loan, the loss severity rate is calculated as the dollar loss incurred at resolution, divided by the loan's original principal balance. For a group of loans, the average loss severity rate reflects the arithmetic average of the individual loss severity rates of the loans comprising the defined population.

Vintage year

References to the vintage year refer to the year in which the loan was originated, which is not necessarily the year the related CMBS transaction closed. Loans may be originated in an earlier year than the transaction's vintage year because the loan was warehoused until securitization.

Loan age

Generally, for loans classified as defaulted, loan age is calculated as the time between origination and default. For loans that were never classified as defaulted, and that have paid off, loan age is given as the time between origination and payoff. For the remaining loans, loan age is calculated as the time between origination and the study period end date (in this case, Dec. 31, 2018).

This report does not constitute a rating action.

Primary Credit Analysts:Sahil Kundra, Centennial + 1 (303) 721 4203;
sahil.kundra@spglobal.com
Gregory Ramkhelawan, CFA, New York (1) 212-438-3041;
gregory.ramkhelawan@spglobal.com
Secondary Contact:James C Digney, New York (1) 212-438-1832;
james.digney@spglobal.com

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