07/03/2009

Rate of Loans in Special Servicing Hits 5.4%

The amount of commercial mortgages in special servicing continued to climb in June, reflecting the ongoing deterioration in credit quality.

According to Trepp, another $3.8 billion of loans were transferred to special servicers last month. That increased the total by 10%, to $40 billion. At the end of June, 5.39% of the total balance of securitized commercial mortgages was under the control of special servicers, up from 4.92% at the end of May.

The special-servicing rate has now climbed for 14 months in a row and is 13 times higher than the record low of 0.40% in August 2007. The bulk of the increase has come since the end of last year, when the rate was 1.62%.

Master servicers transfer loans to special servicers when signs of trouble emerge. Special servicers attempt to work out the problems with the borrower and return the loan to normal status or negotiate a payoff. Failing that, the loan is liquidated and the proceeds are forwarded to bondholders.

The large number of loan transfers stems from two key trends: the poor performance of mortgages written as the bull market was peaking, and the inability of borrowers to refinance maturing loans because of the credit crunch.

"If the percentage of loans capable of refinancing stays low, it's hard to see these numbers leveling off," said Trepp managing director Manus Clancy. "Anything near its maturity date typically moves to special servicing. With more loans coming due in 2010 than in 2009, it will be hard to buck the trend."

In perhaps the only silver lining last month, the net dollar amount of loans added to special servicing slowed for the first time since early this year. But transfers still remained at a historically high level. Indeed, the 47-bp increase in the special-servicing rate was the third-highest ever, after a 174-bp spike in May and a 57-bp rise in April.

The increase in May, which represented a net $12.4 billion of loan transfers, stemmed in large part from General Growth Properties' bankruptcy. The REIT's filing triggered the automatic transfer of its mall loans to special servicers, even though most of the properties continue to perform well.

Meanwhile, by straight count, the number of loans added to special servicing continued to grow. In June, there was a net increase of 271 mortgages, or 12%, to 2,561. That followed a net increase of 260 in May.

Among large loans added to special servicing recently were a $157 million mortgage on Southfield Town Center in Southfield, Mich.; a $141 million loan on a retail portfolio controlled by a Developers Diversified Realty partnership; a $130.1 million mortgage to a DLJ Real Estate Capital Partners partnership on six hotels, encompassing 1,159 rooms, in California and Oregon; a $98.7 million mortgage to Educational Realty on nine student-housing properties, encompassing 1,073, in six states; and a $90 million mortgage to Millennium Partners on the 277-room Four Seasons San Francisco hotel.

The special-servicing rate compiled by New York-based Trepp dates back to 1998, when an industry standard for the reporting of CMBS data was implemented.

There is often a time lag before transfers to special servicing are reported. Transfers are disclosed in monthly reports issued by servicers on varying schedules. So a transfer counted in June may have actually occurred three or four weeks earlier.

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