CRE Distress Climbs in Majority of 50 Largest MSAs

Based on data from CRED iQ, there has been a noticeable surge in distressed commercial real estate (CRE) loans. Recent studies reveal significant increases in several major metropolitan statistical areas (MSAs), with certain regions witnessing jumps of up to 2.5%.

CRE Distress Climbs in Majority of 50 Largest MSAs

Based on data from CRED iQ, there has been a noticeable surge in distressed commercial real estate (CRE) loans. Recent studies reveal significant increases in several major metropolitan statistical areas (MSAs), with certain regions witnessing jumps of up to 2.5%.

Good morning. Distressed CRE loans are on the rise in most of the top 50 MSAs, with the majority showing month-over-month increases. US household formation surges as remote workers seek spacious living, offsetting outbound migration.

In other news, a Dallas court is currently deliberating whether grabbing a coffee together could potentially violate non-compete agreements for brokers.

Market Snapshot

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10Y Treasury
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SOFR
1-month
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*Data as of 5/11/2023 market close.

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IN FOCUS

Where the Highest Levels of CRE Distress Are Right Now

According to CRED iQ, distressed commercial real estate (CRE) loans have notably increased. Recent reports indicate that many major metropolitan statistical areas (MSAs) have experienced significant rises, with some witnessing jumps of up to 2.5%.

Increasing stress: Distress levels rose by an average of approximately 80 basis points between March and April, affecting 84% of the 50 largest MSAs. Notable spikes were observed in Minneapolis (2.5% increase), Jacksonville (2.0% increase), and San Antonio (2.0% increase). However, a few markets, including New Orleans (-1.8% decrease) and Louisville (-1.1% decrease), showed improvements in distressed rates during April 2023.

Diverse market performance: The findings focused on the top 50 MSAs, representing 56.9% of the country's population based on Census Bureau data from July 1, 2021. CRED iQ highlighted that the MSAs with the highest existing rates of distressed CRE loans also experienced the most significant increases in distress as of April 2023. These elevated levels raise concerns and require attention.

Rates by MSA: CRED iQ identified the MSAs with the highest distress rates. Minneapolis had the highest distress rate at 25.2%, followed by Chicago (10.8%), Birmingham, Alabama (10.7%), Milwaukee (10.5%), and Cleveland (9.4%). These rates encompass loans classified as specially serviced, delinquent, or a combination of distressed loans, indicating serious issues in the market.

➥ THE TAKEAWAY

Big picture: The office sector, particularly in Atlanta, San Antonio, and Jacksonville, experienced the most significant surge in loan distress. Notably, this distress was driven by large suburban office properties, such as a 2.2 million square foot portfolio and a 575,771 square foot property in San Antonio. Additionally, the hotel sector faced pressure in multiple cities due to a significant mortgage transfer to special servicing before its maturity date. These trends highlight the challenges encountered by different property types across various metropolitan statistical areas (MSAs).

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BALANCING ACT

After Pandemic Exodus, Household Formation Fuels More Demand in Major Metros

When the pandemic hit, and remote work became the norm, it caused a mass exodus of workers from major cities to cheaper alternatives in search of affordable housing. However, recent research has identified the surge in household formation in big cities as the driving force keeping housing demand from falling off a cliff.

More households, please: Household formation, which was declining before the pandemic, rose by 2.5% nationally in 2021, more than double the fastest rate since the Great Recession. The excess inventory caused by the exodus of remote workers was offset by the spike in household formation, creating millions of new home hunters. The Economic Innovation Group also found that more adults prefer to live independently or in smaller units, leading to 20% rent inflation.

“Too damn high”: Despite recent slowdowns in rent increases, the impact of the 2021–22 rental surge is still felt by renters in large cities. Manhattan's median rent has reached a record high, and NYC's overall rent is nearly 19% higher than in 2019, per Zillow data. Chicago, Seattle, and DC saw rent increases of 17%, 13%, and 10% over the same period. Even in San Francisco, where many residents moved out, rents have only dropped by 2% since the pandemic.

Balance in all things: Big US cities suffered the most from outbound migration. John Burns Research and Consulting's analysis of census data revealed significant net losses in residents due to migration from July 2021 to June 2022: NYC lost 194,000 people; LA gave up 109,000; 88,000 left Chicago; and San Francisco saw 20,000 depart. However, household formation has acted as a counterweight to the sudden flight to the suburbs.

➥ THE TAKEAWAY

Balance in all things: The rental markets are in the middle of another major shift. New research points to a rise in remote work households leading to more demand for bigger, higher-quality housing units. Accommodation preferences are also changing, with new households desiring more spacious units, while renters require more supply overall to match ever-increasing demand.

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COFFEE MEETS BROKER

Dallas Judge Rules on Legality of Brokers Meeting Over Coffee

Two capital market brokers are at the center of a case in a Dallas County District Court, which asks whether coffee meetings are purely social or could potentially lead to the start of a business relationship between brokers with non-competes.

Can’t make this stuff up: The brokers, Mike McDonald and Jonathan Napper, left Cushman & Wakefield (CWK) for rival JLL (JLL) last year. But the former is arguing their coffee shop meetings could violate the pair's non-compete clause. But coffee is crucial for building relationships, according to real estate brokers. That's why CoStar asked industry experts what they thought. Are coffee meetings potentially problematic?

Can’t replace the real thing: Due diligence can only go so far remotely, said Art Buser, a hotel investment broker with over 40 years of experience. Non-verbal cues, like body language, can tell you more than words ever could. Establishing mutual knowledge, trust, and respect, making eye contact, and getting to know each other over time—all these things can only happen in person.

Convenient, not competitive: Grant Pruitt, co-founder and president of Whitebox Real Estate, emphasizes that time management is crucial in comprehensively analyzing client situations and needs. Casual coffee and lunch hangouts—when conducted with the right people—can lead to big deals. Because Pruitt is a busy executive with young children, coffee helps him get to know clients without taking unnecessary time out of his day.

➥ THE TAKEAWAY

It’s a free country, ain’t it? While the court ruling allows coffee meetings, the case highlights the complex nature of personal and professional relationships in the real estate industry. Face-to-face communication remains highly valued, as it fosters trust and provides a deeper understanding of potential business partners. However, brokers need to be cautious about the content of their conversations during such meetings to avoid violating non-compete agreements.

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📰 Daily Picks
  • Parking problems? Are legacy parking operations hurting your bottom line? Maximize NOI with AirGarage: the all-in-one parking management solution that boosts traffic, revenue, and cuts operating costs.

  • Deal of the day: Parkway Property Investments and Midway Holdings are forming a new real estate investment JV targeting the Sun Belt that will manage a total of 5 MSF of assets, including new developments.

  • MIA gets swanky: Stephen Ross and Jeffrey Soffer plan to build a 451-room luxury hotel at Miami International Airport, with rent projected to bring in $240M in revenue over the next 50 years.

  • New king in town: The new priciest NYC zip code is 10013 in Downtown Manhattan, according to realtor.com. The 0.55 square mile area includes parts of SoHo, Chinatown, Little Italy, and Tribeca.

  • Bigger, not always better: Brookfield Corp. (BN) has defaulted on a number of LA and Washington office assets. CEO Bruce Flatt rushed to ensure investors that its CRE holdings are still ‘soundly financed.’

  • Plodding pipeline: Affordable housing projects struggle to get financing as loan volumes are on track to drop to $12B this year, far below the $24B from 2022 and $32B from 2021.

  • SVB clean-up: US banks face $16bn in additional fees over two years as the Federal Deposit Insurance Corporation implements a plan to recoup losses incurred from rescuing Silicon Valley Bank and Signature Bank in March.

  • Too hot to handle: The owner of the Barrington Plaza apartment complex in Los Angeles will evict tenants and spend $300M to install fire sprinklers after a history of damaging fires.

  • Bronx bonanza: Innovo Property Group and Affinius Capital landed a $3M debt package for a Bronx logistics center anchored by Amazon (AMZN).

  • Deal of the day: TIAA's Nuveen Real Estate arm finished acquiring the entire portfolio of Omni New York, buying a total of 12K affordable apartments valued at $6.4B.

  • CRE forecast: NAR Chief Economist Lawrence Yun emphasized challenges to the US CRE market this year and projected a 27% decline in transaction volumes.

  • Deposit flows: PacWest shares face renewed pressure as deposit outflows persist in early May. The stock plummeted by 22.7%, exacerbating its ongoing decline.

  • Marijuana in the mix: Despite the legalization of medical cannabis in Florida, there are still no open dispensaries in Miami, which has yet to regulate. Commissioners voted on two application appeals yesterday.

  • Prepare for panic: JPMorgan Chase CEO Jamie Dimon predicts market panic as the US nears potential sovereign debt default. He warns of "potentially catastrophic" consequences but remains hopeful that lawmakers will act swiftly to avert the worst outcome.

📈 Chart of the Day

US office leasing picked up in 1Q23 to 96.7 MSF from 91.3 MSF in 4Q22. Leasing levels had dipped significantly in 2H22 due to tenant preferences for smaller office spaces.

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