CRE, CMBS, Lodging and Retail Storm Brewing - 5/9/20
Standard & Poor's reports that the percentage of CMBS Loan (by loan balance) in their respective "Grace Periods" has historically rested at approximately "three percent (3%) or less"; however, such metric dramatically increased in April 2020 from March 2020 to 7.62% (UPB). S&P further notes that in a "conservative scenario" if the loans in "grace" become delinquent this month (i.e. May 2020), the estimate the Delinquency Rate to be near ten percent (10%) for U.S. CMBS by UPB. Further evidencing the coming proverbial sh*t show for commercial real estate, loans in Special Servicing (SS) nearly doubled in April 2020 over March 2020 to 4.15% from 2.39%, with as expected Retail at 5.78% - and - Lodging, as we have been indicating for many weeks now would happen, at 11.36% from a mere 1.88% in March 2020 - and this is just the very first monthly of reported distress for U.S. CMBS, Retail and Lodging by the way.
What is Sentiment like for the U.S. Institutional Lodging Sector? Speaking in a session titled “Deals on the horizon” during the LodgingStream online conference, organized by Long Live Lodging,* panelists said those things are simply off the table in a low-to-no revenue environment, as reported by Hotel News Now, CEO of the Plascencia Group, Lou Plascenia, comments, in part, "“I think it’s an absolute waste of time to do a valuation on an asset,” said Lou Plasencia, CEO of The Plasencia Group. “Whatever number you give a seller or a lender, chances of being wrong are virtually 100%. You just have to wait and see for a little bit of time.” He gave a similar assessment of reaching out to lenders to fund construction or deals, and said it will likely be a few years before things truly stabilize. “This is not a fun time to be in this business, right now,” he said. “My expectations are valuations will remain very challenged probably through the end of 2021 or into 2022.” (Sean McCracken, HNN) Participants expressed optimistic "hope" that the debt markets would come back in 12 to 18 months; and, separately, that "the flood gates" for transactions will open in a mere "four to six months" time. We take issue there, and this is our prognostication:
Hotel Debt Markets. For non-recourse financing, it will require 12 months of profitable non-proforma operating history to obtain financing from - so 18 months from now, or late '21 for debt availability to slowly come back is more realistic. Further, once such financing does become available, it will be, a priori: (a) major franchise properties, (b) low leverage (50-60% LTV), (c) high barriers to entry; (d) valuation well below replacement cost.
Hotel Transaction Market. Having negotiated many Special Servicing defaulted non-recourse hotel CMBS deals in the post Great Financial Crisis (GFC), it takes a long time for these transactions to work their respective way through the system - there is NO WAY that the U.S. Hotel Transaction market picks up in 4-6 months time in any material fashion - and any person that says so is either stupid, a liar, or selling something. The truth of the matter is, for Special Servicing - the >$50m loans get treated with extra care; and, almost 100% of everything else is dual tracked towards foreclosure - then held and seasoned for sometime - then liquidated, a 24-36 month process. Bank loans, will fight for whatever recourse they may have gotten - and Bridge Lenders, most very intelligent, will either work deals out with the Borrowers (trying at least 1x or 2x, while extracting more controls and lender friendly covenants, rate "kickers") - or - take the keys - but they won't firesale liquidate in 4-6 months time in a distressed valuation market. It is not inconceivable for cap rates to materially rise from here (off of lower CFs) - given cash flow uncertainty - for hotels to be treated, in this post-COVID environment more like operating businesses (lower multiples) and less like real estate - that's our view and belief - for the next 2-4 years - it will be a slower route back for Hotel Valuations than post-GFC and that was a very difficult environment.
Lodging Fundamentals - Still Bad. U.S. hotel occupancy fell 58.5% to 28.6% during the week of 26 April to 2 May. ADR declined 44% to $74.72 and RevPAR fell 76.8% to $21. Overall, these last few weeks can be filed under the ‘less bad’ category. “At the same time, this past week was the first to show solid evidence of leisure demand as weekend occupancy grew in states that have significantly eased mitigation efforts. As we have noted throughout the pandemic, the leisure segment will be the first to show a demand bounce back. In weeks prior, the more reasonable conclusion was that hotels were selling mostly to essential worker types.” Aggregate data for the Top 25 Markets showed larger year-over-year declines than the national averages: occupancy (-64.8% to 27.0%), ADR (-51.1% to US$81.28) and RevPAR (-82.8% to US$21.92). Among those Top 25 Markets, Oahu Island, Hawaii, experienced the largest drop in occupancy (-88.7%) and the only single-digit absolute occupancy level (9.7%). The decline in occupancy resulted in the steepest decrease in RevPAR (-93.5% to US$13.93). Boston, Massachusetts, posted the largest decline in ADR (-60.5% to US$90.01). Of note, absolute occupancy in New York, New York, was 44.9%, up from 41.0% the previous week. In Seattle, Washington, occupancy was 23.8%, up from 22.4% the week prior (STR via Hotel News Now Wire)
EU guidelines for reopening. The European Union will unveil guidelines on tourism, transport and borders on May 13. The document, which is expected to include safety protocols for tourism locations, guidance on health measures on passenger transport and guidance on lifting of internal borders within the Schengen area, is an effort by the European Commission to reactivate tourism after the COVID-19 pandemic. But Brussels does not have policy power in most of these areas, and the best it can do is to issue a series of best practices that member states can follow voluntarily (Stratfor)
Marriott ($MAR) reports 1Q20 Earnings on Monday (5/11) before the bell. We got burnt on $LYFT this week - which continues to burn money like money don't matter, like Cash Flow from Operations don't matter - and we're fine at $OMCL trading off a bit, not a short-term view of ours. It is helpful to manage position size to 1-2% max of portfolio (and on the short side we max at 1%). This coming week we like $CPS at just over 20% of Book Value. $DDOG, while falling into the MoMo Tech category we despise, appears to be the real deal on the tech front - and - appears to have even more power in a fragmented socially distanced office workplace environment as each of a management and sales tool. $DKNG conference call on Friday (5/15) will be very interesting.