The rate of delinquencies in commercial properties has increased quicker than ever. Commercial mortgage backed securities (CMBS) have tripled in three months to over 10%. In one quarter delinquency rates have already reached their peak in 2012. It took over two years for CMBS delinquency rates to reach the same historic levels in the aftermath of the housing crisis in 2009.
Given all of the new risk factors facing commercial real estate investors some major underwriting adjustments are being applied. Increasing the vacancy percentages from 3-5% to 9-10%; increasing cap rates; decreasing rents and future rental increases; increasing certain operating expenses including property taxes. These are major changes that will cause commercial real estate to be revalued lower over the next several years.
Rent concessions are prevalent in the San Francisco Bay area, some landlords are offering 2 months free rent and some are offering $2,000 gift cards. According to Zumper rent year-over-year a one-bedroom in San Francisco dropped almost 12%, it’s the first time San Francisco’s lease rate has fallen by double-digits. Throughout Silicon Valley rents have dropped by double-digits. Mountain View 15%; Menlo Park 14%; Palo Alto 11%; Cupertino 16%.
From Market Watch:
“It’s an open secret that commercial real estate owners take cash out of buildings. When they do, unlike homeowners, criticism often is sparing. After all, hotels, shopping centers, office towers and other commercial buildings are run as businesses, where the whole point is to reap a profit. The real-estate industry is all about taking cash out, and on a tax-deferred basis, at that,’ said Scott Tross, co-chair of real estate litigation and dispute resolutions at Herrick Feinstein, a law firm.
‘That’s nothing new. But in many respects, what’s happening now is reminiscent of what happened ten years ago or so.” “By that, Tross was referring to the deluge of late payments, defaults and foreclosures that swept up some of the biggest names in U.S. commercial real estate in the wake of the 2007-08 global financial crisis, and saddled their investors will losses. ‘You had people borrowing as much money as they possibly could, none of it on a recourse basis. And if things move in their direction, that’s great,’ he said. ‘If they don’t move in their direction, they just hand back the keys.’”
“That threat of borrowers walking away once again looms over the commercial real-estate market. Another new twist is that borrowers, ahead of this downturn, pulled more equity out of U.S. commercial buildings than ever before, when they have refinanced in the commercial mortgage-backed securities (CMBS) market, a key source of loans for hotels, skyscrapers, warehouses and other business properties that end up packaged into bond deals.”