US commercial property loan defaults hit six-year low

Defaults on US commercial property loans that back complex bonds that helped fuel the financial crisis slipped to a six-year low last year, as an economic recovery and subdued borrowing costs helped buoy the US real estate market.

So-called CMBS, or commercial mortgage-backed securities, was not one of the worst corners of the global securitisation machine that stoked the financial crisis, but many of these bonds still plunged in value when the credit crunch began to bite, and defaults climbed steadily in the wake of the crisis.

But the number and value of defaults on loans underpinning US CMBS - typically shopping malls, hotels or offices - have declined steadily since the 2010 peak, and last year fell to just $3.9bn, down 28 per cent from 2013, according to research from Fitch Ratings.

As a percentage of the total outstanding, the annual default rate slipped from 0.9 per cent in 2013 to 0.6 per cent last year - the lowest since 2008, according to the rating agency's annual report on the US CMBS market, out on Monday. Issuance has also picked up, and is on track to hit $110bn this year, up from $90bn in 2014, according to Barclays.

The improvement has been driven by the US commercial property recovery, as tumbling borrowing costs and a search for yield has reinvigorated the recession-struck sector. Prices are now back above the pre-crisis peak, outpacing the recovery in residential real estate.

"We've seen an improvement across the board," said Aaron Haan, a strategist at Barclays. "The economic recovery, helped by low interest rates, has helped keep new delinquencies down."

US CMBS returned 1.82 per cent this year, slightly outpacing the performance of the overall Barclays Aggregate index of US bonds, as investors continue to prowl bond markets for securities that offer higher yields than on offer in government debt or high-grade corporate bonds.

Fitch Ratings noted some headwinds on the horizon, especially a likely rise in interest rates from the Federal Reserve and a "refinance wall" made up of loans first extended in 2005-07.

Although most of these are still current and could be refinanced more cheaply when they come due, faster or bigger than expected Fed rate increases "could prove problematic", the rating agency noted.

The list of CMBS loan defaults is already dominated by those in deals structured in 2005-07 - the peak of the pre-crisis credit bubble, when lending standards fell to their nadir. These "vintages" account for almost 90 per cent of all the CMBS loan defaults tallied by the rating agency.

Mr Haan predicted a "modest" increase in the number of CMBS loan defaults next year and in 2017, as some of the more aggressive, leveraged deals structured at the peak of the bubble come due for repayment. "It's certainly a concern," he said.

The debts of "lower tier" regional malls proved particularly weak last year, with the value of commercial retail loan defaults climbing by more than a fifth to $1.7bn, or almost half of all delinquent CMBS loans in 2014, according to Fitch.

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