This is S&P Global Ratings' fifth quarterly update on U.S. commercial mortgage-backed securities (CMBS) conduit transactions published in the midst of the COVID-19 pandemic. We continue to closely monitor the COVID-19 pandemic's impact on U.S. commercial real estate fundamentals and our ratings on U.S. CMBS, particularly in the lodging and retail sectors.

S&P Global Ratings believes there remains high, albeit moderating, uncertainty about the evolution of the coronavirus pandemic and its economic effects. Vaccine production is ramping up and rollouts are gathering pace around the world. Widespread immunization, which will help pave the way for a return to more normal levels of social and economic activity, looks to be achievable by most developed economies by the end of the third quarter. However, some emerging markets may only be able to achieve widespread immunization by year-end or later. We use these assumptions about vaccine timing in assessing the economic and credit implications associated with the pandemic (see our research here: www.spglobal.com/ratings). As the situation evolves, we will update our assumptions and estimates accordingly.

The COVID-19 Pandemic's Evolving Impact

The overall delinquency (DQ) rate for U.S. commercial mortgage-backed securities (CMBS) transactions decreased 28 basis points (bps) month over month to 5.8% in March 2021 and has steadily declined since peaking to 9% in Summer 2020. Although the overall DQ rate has declined, the share of delinquent loans that are 60-plus-days delinquent (i.e., seriously delinquent) is 87.6%. A substantial majority of the total population of arrears remains in the lodging and retail sectors; the 30-plus-day DQ rate for multifamily, office, and industrial is below 2.2% despite multifamily and office DQ rates ticking up in March.

The forbearance rate increased by 10 basis points (bps) to 7.6% in March, down from the peak slightly above 8% in July and August 2020. Over 87% of these loans are in the retail and lodging sectors.

New Issue Credit Metrics Improved In First-Quarter 2021

The loan metrics for U.S. CMBS conduit new issuance transactions were stronger in first-quarter 2021 despite interest-only (IO) percentages re-testing their "2.0" era highs. These included the following:

• Leverage fell by over six percentage points quarter over quarter (q/q).
• Debt service coverage (DSC) ratios rose 0.17x to 2.58x, remaining at a very high level. We note that historically low rates and high IO loan percentages are clearly contributing to elevated DSC ratios.
• Combined IO percentages are back near the 2.0 peak of 91.9% set in third-quarter 2020. The full-term component increased eight percentage points q/q to 72.1% in first-quarter 2021, and the partial term component was up 30 basis points to 19.5%. As such, the combined total of 91.6% was just shy of the third-quarter 2020 mark.
• Our average cash flow and value variance to issuer values both decreased by multiple percentage points.
• Effective loan counts (as measured by the Herfindahl-Hirschman Index score) and actual loan counts were up three points, while average deal sizes and loan counts rose considerably.

Our 'BBB-' Credit Enhancement Levels Remain Well Above The Market Average

Our 'AAA' credit enhancement level was nearly flat to the market level in first-quarter 2021, but our 'BBB-' credit enhancement level was still 330 bps higher. We continue to believe these 'BBB-' rated classes could prove relatively more vulnerable to event risk--especially with more concentrated pools--until the ultimate economic impact of the COVID-19 pandemic on CMBS performance becomes clearer. As a result, we have not rated many of these classes in recent vintages.

Our average cash flow and value variance to issuer underwritten values declined considerably on a quarterly basis: 460 bps and 240 bps to 15.6% and 41.4%, respectively, but were more in line with 2020 full-year figures.

Of the six U.S. CMBS conduit transactions that priced in first-quarter 2021, we rated four (see table 1). The six offerings had an average of 53 loans, with top-10 loan concentrations coming down to 55% after posting approximately 60% for three straight quarters. The average effective loan count climbed moderately q/q to 24.1, from 21.1 in the last quarter of 2020.

Table 1

The conduit deals priced during first-quarter 2021 had lower loan-to-value (LTV) ratios and higher DSCs on a quarterly basis. The average LTV was 93.2%--a 630 bps improvement q/q. Average DSC rose 0.17x to 2.58x in the first quarter, maintaining an elevated level. This likely reflects two factors: lower interest rates and a lot of full-term IO loans. For the purposes of our DSC analysis regarding partial IO periods, we utilize the figure after the IO period ends; but partial IO percentages remain somewhat low.

IO as an overall percentage of the collateral pools jumped to about 92% in the first quarter from about 83% in the fourth quarter. Full-term IO loans make up 72.1% of the collateral pools, an 800-bps increase q/q, while partial-term IO exposures climbed by 30 bps to 19.5%.

In our review, we made negative adjustments to our loan-level recovery assumptions for all IO loans. In some conduit transactions, we made additional pool-level adjustments when we saw very high IO loan concentrations or when an IO loan bucket has no discernible difference in LTV versus the average (i.e., it is not "pre-amortized"). The average S&P LTV for full-term IO loans issued in the first-quarter 2021 was 92.8%, about 40 bps below the overall average.

Effective loan counts, or Herfindahl-Hirschman Index scores, which measure concentration or diversification by loan size, rose 300 bps to 24.1. We consider this level to be moderately well-diversified, but it's still below the recent pre-pandemic vintage range-–2018/2019 vintage averages were about 28, similar to first-quarter 2020. That said, the average deal size increased by over $150 million to $991 million in first-quarter 2021, while the average number of loans rose to 53 from 41 in the previous quarter.

Property Type Exposures Continue to Shift Within Conduits

We continue to see quite a bit of movement in property type exposures within conduits.

Industrial exposure remained elevated at 12% in the first quarter, up slightly from 11% in the fourth quarter, but well above the 6-7% range in recent pre-pandemic (namely 2018 and 2019) vintages. Retail exposure was 14% in the first quarter, down from 17% in the fourth quarter, but above the 8%-9% lows set in mid-2020. Lodging was pretty steady, down a couple points to 7%, from 9% in the fourth quarter and 8% in the third quarter. Office remains number one by a wide margin, even after falling to 35% in the most recent period from 43% in the fourth quarter, a nearly four-year high (46% in first-quarter 2017). Meanwhile, multifamily exposure climbed five percentage points to 11%, and both self-storage and mixed-use notched considerable gains, up over four and five percentage points respectively, to 8% and 13%.

Chart 1

Lodging

The lodging sector has been one of the most affected by the pandemic as evidenced by the unprecedented 47.5% decline in U.S. RevPAR in 2020, which stemmed from record low occupancy of 44.0% for the year. Hotels in urban markets were the most severely impacted with RevPAR declines of 63.9%, while upscale hotels fared the worst by chain scale with a 62.0% RevPAR drop. However, the heightened pace of the vaccine rollout coupled with the CDC's recent updated guidance indicating that travel risk for fully vaccinated individuals is low, has resulted in improved U.S. occupancy levels in recent weeks. For the weeks ended March 20th, March 27th, and April 3rd, occupancy improved to the 58%-59% range, versus the 20%-30% range experienced in the same weeks last year. As occupancy continues to recover, year-over-year comparisons will improve significantly due to the 70%-80% RevPAR declines experienced early in the pandemic last year.

Despite the 100%-plus RevPAR gains reported in the last three weeks, driven mainly by spring break-related travel, we do not expect RevPAR will return to 2019 levels until 2023. Year-end 2020 RevPAR levels dropped below the nominal levels achieved in 1997 and will take time to recover. Certain hotels will recover faster than others, depending on price point, location, and market mix. We continue to expect that properties in urban markets and those that depend on business travel and meeting and group demand, particularly large groups, will take the longest to recover. Finally, the supply pipeline has moderated (-3.6% in 2020 and -2.1% year-to-date through February) as construction has slowed due to lack of financing, which will aid in the recovery (data in this section is from STR).

Retail

Retail malls have been facing significant challenges and deteriorating revenues for the past several years due to factors including the proliferation of retailer bankruptcies and store closures as consumer shopping preferences shifted to e-commerce from brick-and-mortar stores. Meanwhile, grocery-anchored retail, home improvement stores, and some larger big-box retailers are generally outperforming the traditional retail stores. Given this bifurcated outlook, we revised our capitalization rate assumptions for retail malls to reflect the long-term secular challenges facing the sector in late 2020.

Office and multifamily

The office and multifamily sectors are facing some uncertainty going forward, although delinquencies remain low at 2.2% for multifamily and 2.0% for office.

For offices, most of the questions regard future space demand given the increase in flexibility afforded by employers. We expect this picture to come into a sharper focus over the coming quarters, with more clarity likely in mid/late 2021 with the reentry of more workers to their offices, and corporations making longer-term decisions. Further, we expect results to vary by industry. (See "Remote Working Is Testing U.S. Office Landlords' Credit Quality," published Feb. 11, 2021).

It is also important to note that office leases are typically for longer terms, on the order of 10 years or more, so we expect any potential distress would likely take place over an extended period as rollovers occur. In the near-term, we'd expect a somewhat bumpy 2021, as landlords will likely provide concessions to protect the level of "face" rents given increases in vacancy and subleasing. We may also see firms sign shorter term leases to delay longer-term decisions. Beyond 2021, as the broader economy continues rebounding, we will closely track these metrics to measure the potential long-term structural shifts in the supply/demand dynamics of office space demand.

We've already seen some evidence that multifamily rents have declined in certain large cities, and concessions have also been increasing, especially at newer properties that are struggling to lease up to a stabilized level. Overall (institutional quality) apartment building values have declined about 4% versus the pre-COVID-19 period, according to Green Street, similar in magnitude to the all property value decline of 6% (office is down about 9%). Like offices, some risk of deterioration in property fundamentals/values exists due to a potential population shift away from denser city centers, which could increase vacancies and drive down rents. There is some evidence of this supporting multifamily rents in suburbs, exurbs, and smaller markets. The trend is expected to continue as work-from-home flexibility could mean that employees don't need to be near offices and may continue to seek out (larger) spaces to accommodate a home office. However, dwindling housing inventory and record-approaching price appreciation may serve to counter some of this trend, as long as it persists.

$15 Billion In New Issuance During 2021

There was about $15 billion in first-quarter 2021 private label CMBS issuance excluding commercial real estate CLOs. The breakdown between single asset single borrower and conduit was roughly 60%/40%, or about $9 billion SASB and $6 billion conduit. That total was down about 30% versus first-quarter 2020's $22 billion figure. Our forecast remains at $70 billion for the full year, as we expect some increase in origination/securitization volume as the recovery progresses.

Related Criteria

• CMBS Global Property Evaluation Methodology, Sept. 5, 2012
• Rating Methodology And Assumptions For U.S. And Canadian CMBS, Sept. 5, 2012