According to a report by analytics firm CRED iQ, distress in commercial real estate (CRE) collateralized loan obligation (CLO) loans has seen a staggering surge over the past year. In January, approximately 8.6% of commercial real estate loans bundled into CLOs were classified as distressed by one measure, marking a significant increase compared to the previous year’s proportion. The distress rate is now reported to be 480% higher than in February of the previous year, highlighting the severity of the situation.
The borrowers of these distressed loans typically utilized the funds to acquire multifamily complexes, with the intention of renovating them and selling them for a profit. However, many are now facing challenges with their floating-rate loans as borrowing costs have escalated due to increases in interest rates.
In addition to rising borrowing costs, multifamily debtors are grappling with other challenges in certain markets. Factors such as escalating insurance costs, declining property values, and heightened competition, fueled by investor interest during the pandemic-induced rental spikes, are contributing to the strain.
Lenders, including Arbor Realty Trust Inc., are particularly vulnerable to the repercussions of these distressed loans. As providers of the equity portion of the CLOs, they are poised to incur losses if borrowers default on their obligations.
Arbor’s Chairman, Ivan Kaufman, acknowledged the current period as one of “peak stress” and anticipates the next two quarters to present significant challenges. The company is actively engaging with quality sponsors to address underperforming assets, assuming debt obligations, and seeking to recapitalize transactions to mitigate losses.
The distress rate for CRE CLOs reached 8.6% in January, according to the CRED iQ report, a substantial increase from the 1.5% reported in February of the previous year. The definition of distress used by the data provider encompasses loans that are 30 days or more delinquent, as well as loans that have been transferred to special servicers. Other definitions of distress may include loans that are 60 days or more past due.
With approximately $80 billion of CRE CLO loans outstanding, the surge in distress signals a challenging period ahead for commercial real estate investors and lenders alike.
