Why are the lenders pretending like nothings happening?

Can anyone explain what the lenders are doing/thinking? All we hear about is this looming wall of maturities and the massive amount of lender exposure to crappy Sunbelt multi-properties... but every lender I speak to tends to agree that everyone else is holding onto dog sht wrapped in cat sht, except for them of course.  Why are they pretending like they are fine or is it they just don't understand how screwed they actually are!?

We're in the wall of maturities, it's not looming, it's here!

For example, I won't mention names but can use context clues, there is a CLO shop currently holding onto a note collateralized by a typical 70s multi in the Sunbelt owned by a crumby syndicator. This note was originated in Feb 2021, with a 3-year maturity, so it came due this month. Now the occupancy of the property is in the 60% range, the NOI is negative, the Sponsor is crying for cash from everyone, and the property is being mismanaged. One would expect that at maturity it defaulted because the Sponsor couldn't meet any extension covenants and weren't able to refi, right? When we reached out to the lender we thought, hey I'm sure they'd love to sell us this note and we could pick it up at a few cents below par, and they can get rid of this headache, right?? Nope! All the lender had to say was, we're not interested at this time as we're working with the Sponsor... like what!? Not even interested in engaging in a conversation to hear about structuring a deal here? The lender rather let this dog sh*t operator run it's collateral into the ground and get into a worse situation in a few months than cut their losses now!? Might as well give these dudes the kerosene and matches. This is one example of the type of stuff I'm talking about, it seems to be every lender out there is delusional.

I feel like we are all Steve Carrell's character sitting in the back of a taxi going "What the hell is going on!?"

So please can anyone explain to me, what is happening!?!? 

 

The crash is imminent

Agree to an extent.  And none of the note holders want to be the first to start marking loans for sale below par.  They’d rather stick it out till the last second, because then they can blame it on the overall market as a whole.  Kinda like “ hey look, everyone is losing their shirts on these deals”.  Perception is the highest priority these days, apparently.

 

It depends on the lender. Are you only referring to multi? High leverage floaters on 3.5% cap purchases to 25yr olds probably should feel some pain. On the flip side, there are plenty of older apartment deals that are totally fine because they have a good sponsor who put some decent cash into it and manages it well.

This is the worst part about the doom and gloom posts. Everything gets lumped in together when outcomes are not evenly distributed (CLO value-add multi is different than low leverage agency which is different than an STNL Amazon warehouse that a lifeco may have). Not all CLO lenders are created equal either. Believe it or not, there are some decent office deals out there today too...although I'm not allowed to touch them.

 
LifeCoMoney

This is the worst part about the doom and gloom posts. Everything gets lumped in together when outcomes are not evenly distributed 

Bingo. Plenty of people/firms will be absolutely fine. It is not an all or nothing scenario. 

Commercial Real Estate Developer
 

Depends on the lender. Small banks are way friendlier to borrowers and will just keep extending your loan (annually, of course) for like 5+ years even if the deal isn’t getting any better. The special credits guys at my bank think that getting a $15k fee for a 1-year extension of a $20mm loan counts as a win. It’s ridiculous.

 

Can anyone in the debt fund world advise on what their line lenders are currently charging them?  
 

I’m hearing rates are 15% for a fund.  If so, the fuse has been lit if they are anywhere close to their 50% leverage limit on a fund with severe impairment.  This could be a forcing function leading to end the of extend and pretend or to discounted note sales.

 
Itsa Jungle

Can anyone in the debt fund world advise on what their line lenders are currently charging them?  
 

I’m hearing rates are 15% for a fund.  If so, the fuse has been lit if they are anywhere close to their 50% leverage limit on a fund with severe impairment.  This could be a forcing function leading to end the of extend and pretend or to discounted note sales.

I work in lender finance. Depends on your size but the credit facilities are always floating rate. Typical index is 1 month term sofr. Spreads range from 250 for lines from Wall Street to 500+ for lines from non-bank finance companies. If you’re at the stage where you have access to cre clo’s you almost surely have a line from Wall Street plus a smaller line from another lender for loans that fall outside the Wall Street lenders eligibility criteria.
 

The margins are pretty thin right now

 
tjs121
Itsa Jungle

Can anyone in the debt fund world advise on what their line lenders are currently charging them?  
 

I’m hearing rates are 15% for a fund.  If so, the fuse has been lit if they are anywhere close to their 50% leverage limit on a fund with severe impairment.  This could be a forcing function leading to end the of extend and pretend or to discounted note sales.

I work in lender finance. Depends on your size but the credit facilities are always floating rate. Typical index is 1 month term sofr. Spreads range from 250 for lines from Wall Street to 500+ for lines from non-bank finance companies. If you’re at the stage where you have access to cre clo’s you almost surely have a line from Wall Street plus a smaller line from another lender for loans that fall outside the Wall Street lenders eligibility criteria.
 

The margins are pretty thin right now

Curious what these rates were during the best of times - like 2021?

 

It takes time. A lot of the loans (3-5 year terms) that were originated in 2019-2021 are maturing in 2024. So we shall see.

Additionally, loan modifications/distressed restructurings take time, months. We haven’t seen a lot of the capital events that will lead to losses come to fruition. We are still in a price discovery phase, once the big guys start buying, everything else will start to trickle down. I’ve seen BOVs and appraisals this year conclude values 50-100% less than the values in peak 2021.

 
Financial Analyst 2.5

It takes time. A lot of the loans (3-5 year terms) that were originated in 2019-2021 are maturing in 2024. So we shall see.

Additionally, loan modifications/distressed restructurings take time, months. We haven’t seen a lot of the capital events that will lead to losses come to fruition. We are still in a price discovery phase, once the big guys start buying, everything else will start to trickle down. I’ve seen BOVs and appraisals this year conclude values 50-200% less than the values in peak 2021.

Multifamily purchased in 2019-2020 is probably OK, 2021 gets dicey and you're right, we are still a quarter or two away from maturities / decisions being made.

 

Sounds suspiciously like Arbor Realty. Very interesting case. After having been dragged into the spotlight like that by Viceroy they probably got their door ran into by people wanting a piece of the pie for cents on the dollar. Short float is at 35%. I think they know they are sitting on a time bomb full of shit but probably want to avoid being one of the first to go bust. Imo inevitable though within the next 1 1/2 years since that it when most of their CLO vintages mature.

 

In this case it isn’t arbor, but I did talk to them. They were at least willing to have a conversation about selling some of their notes, but were pretty upfront with saying they’d likely only pull a loan and sell to groups they’ve transacted with before, or would go through a marketed process for any loans they want to unload.

 

From a bank lender’s perspective, we aren't hammering borrowers because we take sponsorship seriously and our borrowers have been through cycles, shown willingness and ability to support projects and honored their recourse. Two situations that look identical from the outside can be wildly different based on these factors. 

 

Depends on the lender. Some have AM arms and will just take the properties over (case in point Benefit Street taking DB Capitals San Antonio property). Most of the large debt funds are also aggressively expanding their AM capabilities at the moment because they know we are VERY close to let’s finally given back (2-4 months). Other debt funds are absolutely talking to sponsors to transfer title and restructure but a) you need to have a relationship with them. They aren’t just going to start fielding calls and sending out information en masse on their portfolio. And b) They aren’t structuring outright sales because that would require write downs. They are attempting to create structure where’s new sponsors bring in a small but not nominal amount of new equity, transfer title and they only subordinate the estimated lost debt to the new equity and create some form of waterfall to hopefully recoup it later on.

Lenders themselves are not forced sellers yet so very few below-par actual trades of notes are taking place. Need a few more failed CLOs and warehouse lines to dry up.

 
AllThingsMulti

Depends on the lender. Some have AM arms and will just take the properties over (case in point Benefit Street taking DB Capitals San Antonio property). Most of the large debt funds are also aggressively expanding their AM capabilities at the moment because they know we are VERY close to let’s finally given back (2-4 months). Other debt funds are absolutely talking to sponsors to transfer title and restructure but a) you need to have a relationship with them. They aren’t just going to start fielding calls and sending out information en masse on their portfolio. And b) They aren’t structuring outright sales because that would require write downs. They are attempting to create structure where’s new sponsors bring in a small but not nominal amount of new equity, transfer title and they only subordinate the estimated lost debt to the new equity and create some form of waterfall to hopefully recoup it later on.

Lenders themselves are not forced sellers yet so very few below-par actual trades of notes are taking place. Need a few more failed CLOs and warehouse lines to dry up.

No debt funds I’ve spoken to are open to a JV scenario and profit share like you pointed out; none. They’d rather stay with the current sponsor than restructure and bring in a new, fresh relationship. The lenders I’ve seen lately are trying to make money on their notes (that are underwater) or have taken over the entire cap stack and are trying to sell and make money somehow lol. It’s honestly quite laughable watching debt guys operate and think like equity, it’s like me trying to speak full Chinese. The asset management teams themselves are not capable of handling equity type transactions either, so idk how that’ll save them ultimately, they just help work on all of the day to day oversight and modeling. But at the end of the day, lenders are going to have to take a hit on bad loans, there’s just no way around it. The equity will be wiped out and they know it too, but debt rarely thinks they make bad bets and aren’t willing to admit it I guess… I’m hoping to be wrong and sponsors/lenders start selling these like hotcakes at discounts, but every tree I’ve ran up is the same BS story and emotional trap. 

 

To clarify, it's not a profit share. Waterfall was probably the wrong descriptor. It's simply a new loan agreement that structures the lender to recoup the debt that they are subordinating to the new capital. Also allows the lender to not have to technically write off the loan amount. I had conversations last week with two of the more well known debt funds out there, so just letting you know it's happening or at least being discussed. Yes, I'm sure the preference is still to want to work with the existing sponsors if: 1) Lender still has confidence in the abilities of the original sponsor, and 2) the original sponsor is able to provide the fresh capital that a new sponsor would provide. Given the number of inexperienced sponsors out there and the number of capital calls that have already taken place, it makes sense that one or both of these points would lead a lender to bring in a new, fresh relationship.

 

I disagree with this characterization... maybe smaller lenders in the sunbelt are all holding onto their pants and pretending otherwise but most lenders know just how bad things are. This real estate crisis is not like 2007-08 and it'll take years to work it's way through the system. Most bank lenders are regulatory capital constrained to hold onto underwater debt and will do whatever it takes to avoid equitizing the debt, preferring to sell it at a discount. The real bag holders are mezz lenders who stepped up in the 2020-22 period thinking that they'll be able to play the role if liquidity provider now realizing they have to actually asset manage buildings they have no experience managing.

 

I agree with you that this is not like 2007, I actually see it as completely the opposite.

now vs then:

1. high-interest rate vs low-interest rate environment 

2. ample liquidity vs illiquid market

3. not enough deals (multiple bids / high amount of interest) vs too many opportunities (nearly no bids / no transaction activity)

The hope note / extend and pretend narrative leaving the GFC made a lot of sense looking back. We had these high-interest-rate loans, refinancing into lower-interest-rate loans that offered safer coverage ratios and lower leverages for any groups with cash on the sideline. This is the opposite story, we're now talking 3-4% rate loans refinancing into 6-10% rates. The cap rates, which theoretically are supposed to follow interest rates, have widened significantly, all leading to destroyed dscr/ltvs.

Where I disagree is the timing, the crystalizing losses on loans shouldn't take years to work itself through the system and should be pretty quick once it starts to happen. I imagine it to be the same way we are seeing the wave of maturities, it to be a complete crash on the shoreline when it hits. 

Mezz lenders, definitely! They are the most screwed, completely wiped, and there will not be a crumb left for any subordinate group when the dust settles. So many of those pref and mezz groups who put out dollars will be the biggest casualties of all this. But to quote the very wise Once-ler, I will feel sad as I watch them all go, but business is business and business must grow regardless of crummies in tummies you know.

 

Dumb sponsor here, I swear to god that like 90% of office refis/extensions are completely made up and every single appraiser is lying over and over again to themselves. At least with multi refis there are fundamentals that seem reasonable with housing shortages/demands etc, but I feel like there's such a massive glut of office that they're all pretending is A/Trophy in valuation that should be >B. 

I feel like it's COVID retail all over again where so much supply that has to get converted, except there's so much supply in high density areas that any uses other than what you get with office rents is going to be a much higher relative delta compared to converting a mall with a massive footprint. 

Maybe I'm missing something, but it feels like there's going to be a massive come to Jesus moment after the extensions/refis go and half of the operators can't cover debt service even with a lower interest rate environment.

 

The appraisers are in a really challenging spot for office. Most of them are not terribly sophisticated and don't have a great grasp on capital requirements / constraints. They are really just comp'ing off other transactions, which don't exist right now. What's an office cap rate today?

 

I can actually provide some insight here as I've been digging into office the last few months.

The short of it is the debt capital markets for office are nearly non-existent outside of some debt funds in NYC.  Even then, these lenders of last resort are being very picky in terms of location, asset quality, leased and occupancy %, WALT, and leverage.  Cost of capital on the debt is around SOFR + 500 bps, so think 10%+.  LPs are not willing to take on negative debt to equity in office and want some positive risk premium.  Therefore, I'm seeing stabilized office with 5+ years of WALT trade at 11% - 12% cap rates.

You'll see some lower cap rates published on transaction summaries, but those are conveniently excluding the fact the Seller provided significantly below market rate debt to get that deal done.  It's all a big game to hide the ball right now as GPs are trying to find creative means to prevent poor comps for future sales.  Unfortunately for them, as more notes go back to the Lenders they are not so creative / focused on the market versus getting out at their basis, if possible.

 

Curious what you expect the lender to do. If they sell one loan for X% below par, that's a new comparable that will affect their entire book as well as affect their competitors. How would you explain to an investor that as of the most recent audit of your portfolio, the value of the book has gone down Y%? What happens if an investor says they want their money out? How do you stop a geyser of capital calls?

A massive market correction is not a good outcome. It means people lose jobs and lots of money. Retirement funds, savings, pensions, etc. 

 

Great - So instead of taking a small loss today, take a much larger one tomorrow because that'll help the investor. Most of the "losses" today, at least for CLO lenders, would be at the equity exposed tranche, so you'd be making the investors/bondholders whole selling now for a smaller discount. Waiting will only make it worse and force those bondholders to be exposed to losses. So in reality it's actually better for them to sell now, as they have a duty to their investors to do so. Unless you think 3 cap 70s multi deals in sunbelt will start to sell again at those prices, then we have a whole other bag of problems to address.

You ever heard of the term cutting your losses? not chasing bad money with good money? That's precisely NOT what the lenders are doing. This extend and pretend narrative will only worsen the problem. Let go of it now before it becomes much worse, and yes that will more likely lead to a massive market correction, which would lose jobs and lots of money, but only worse in the future. The only thing this is doing is preventing it for a little while, but it's just amplifying the problem for a later date.

A bank run is inevitable for a lot of groups, but again if they start at the slightly discounted pricing now they could potentially survive another turn. But if they wait and this crap keeps deteriorating, because let's be honest, no Sponsor is actually putting in serious money into the collateral or trying to improve them, they are just using whatever cash they have to modify loans and keep lenders happy enough by pumping them into rate caps or reserves, so the collateral will be worse, and the loans will take on greater losses.

So, yes, sorry if I sound like a crusader or a naive, but I think the lenders fcked around and now it's time to find out, and should do the right thing by taking on smaller losses early, then to cower in the group mentality and take larger losses for their investors in the future.

 

Don't disagree with anything you wrote, but it is a bit naive. You're asking for people to do the "right" or "honorable" thing, but why would they?

If it helps, take out a margin loan and short anyone who is public (or buy long dated OTM puts). That should make you feel better about these injustices + you'll make a few bucks...and it seems like guaranteed money right?

 

I think they would disagree with you on small loss today and taking much larger one tomorrow. They're thinking the exact opposite actually and I'm not sure I'd disagree, although it's highly uncertain. I would hate to be a forced seller today, the future is likely brighter. They won't be 3 caps again but they're currently 6.5-7% caps and they could reasonably be 6% 12-24 months from now. And, different than the equity which is having to contribute capital, debt is receiving cashflow today. Perhaps not at the 9% that loan terms dictate but likely 5-7%. 

 
Most Helpful

Capitalism without bankruptcy is like Catholicism without Hell.

The FDIC/regulators are telling banks to 'work with' their borrowers, which is code for do not foreclose or take back the keys on these assets.  This is a massive mistake IMO, because now we will have a lost decade like Japan has with their 'zombie' companies except we have 'zombie' assets that are not allowed to find their highest and best use.  In the case of B/C office, self storage conversion or demolition for new ground up that is actually in demand.  In the case of over-levered, 0.5-DSCR multifamily, get a new buyer at the true basis who can actually implement a business plan instead of whatever current sponsors are doing now (letting them depreciate).      

The sponsors who took huge risk in 2020-2022 are effectively being bailed out, and the credit/capital propping them up is not being allowed to find a higher/better use.  I can't get (reasonable) loan terms on very safe/core/de-risked deals because they're letting Johnny-gun-slinger extend/pretend into infinity.  For anything to happen, impaired assets have to trade at their true, market-clearing basis with new sponsors and new business plans.  Yes, that means Johnny-gun-slinger and his LP's get wiped out.  That's capitalism.  

Rant over.  

TLDR: let capital find its highest and best use and stop with the head-in-the-sand games that is creating a moral hazard and prolonging/creating a worse outcome.  

 
asmith_1

Capitalism without bankruptcy is like Catholicism without Hell.

The FDIC/regulators are telling banks to 'work with' their borrowers, which is code for do not foreclose or take back the keys on these assets.  This is a massive mistake IMO, because now we will have a lost decade like Japan has with their 'zombie' companies except we have 'zombie' assets that are not allowed to find their highest and best use.  In the case of B/C office, self storage conversion or demolition for new ground up that is actually in demand.  In the case of over-levered, 0.5-DSCR multifamily, get a new buyer at the true basis who can actually implement a business plan instead of whatever current sponsors are doing now (letting them depreciate).      

The sponsors who took huge risk in 2020-2022 are effectively being bailed out, and the credit/capital propping them up is not being allowed to find a higher/better use.  I can't get (reasonable) loan terms on very safe/core/de-risked deals because they're letting Johnny-gun-slinger extend/pretend into infinity.  For anything to happen, impaired assets have to trade at their true, market-clearing basis with new sponsors and new business plans.  Yes, that means Johnny-gun-slinger and his LP's get wiped out.  That's capitalism.  

Rant over.  

TLDR: let capital find its highest and best use and stop with the head-in-the-sand games that is creating a moral hazard and prolonging/creating a worse outcome.  

Yeah I agree with this except for the part where you've arbitrarily decided to blame it on regulators.

 

Agree with you, but I don't think this "extend and pretend" period will last much longer. Banks know their will be losses, the true FMV isn't accurate, which means their portfolio level LTV on their bad assets is probably way higher. The banks know this, but they are just not providing update info. I think what the Fed is trying to do is make sure the banks have enough liquidity to support the refinancing hole thats about to occur. So this extend period was really for the banks to beef up their cash reserves, not protect the borrowers. I think this year we're going to see the storm appear because the 3-5 year loans will start maturing now.

Array
 

They did bad business. They were as crazy as their sponsors. Why wouldn’t they get wiped out?
Getting rid of bad businesses is good for the economy in the long run.
Losing your job sucks, but it isn’t the end of the world.

 

This all assumes a borrower is saying they won’t cover shortfalls, buy a new rate cap, and/or pay down their loan to buy more time for the property. A lot of borrowers are doing some or all of the above, so why would a Lender not give them a year to see if they can turn it around when they have been carrying the asset and show willingness to continue. I haven’t seen many borrowers ready to throw in the towel yet, despite numerous requests for extensions and/or short term DS/ rate cap relief.

It’s another thing if they won’t commit new equity or can’t call capital to buy time, but we are seeing many find cash to make a deal.

 

Check out the Gainesville portfolio on Page 16 of the Viceroy report:

https://viceroyresearch.org/wp-content/uploads/2024/02/ABR-Baloney-with…

Arbor lent $43.9M on a $51M acquisition by syndicators called The Cyclone Group. (They were in the news for running out of money on a NJ property.)

The February NOI was a measly $88k, with 77% occupancy. That's $1,056,000 NOI, at a very generous 6 cap valuation this property would be worth $17.6M. These losses are staggering.

Can anyone shed light on what happened in May on 2023? It seems to me that Arbor gave them $2.3M to fund a reserve, in order to keep the loan "current".

It's possible this was future funding meant for capex that they allocated to this reserve. Regardless, it seems to me that Arbor is essentially paying the loan with their own funds, in order to keep it off the naughty delinquent list.

 

I read something which feels like an answer to this, but I didn't completely understand it at the time: so from what I can recall, the logic is that if the property is eventually foreclosed upon, the lender, sponsor or whatever can (or will?) get audited, which will invite scrutiny to the rest of their portfolio. I don't work in debt so I can't positively say if I didn't just mix some terms up. I imagine the concern is that by selling to you, you can possibly foreclose on the property. By holding all their loans hostage until they are forced to foreclose, they can avoid their obligation to acknowledge reality and the regulators. Analogous to holding their loans hostage. I'm not sure what the actual, specific legal circumstances for an audit are, so this is just speculation, assuming that their portfolio is actually trash.         

 

Phew! Thanks for the insight, anything else you can share with us, Nostradamus?

Anyone who says values have bottomed has no idea what they are talking about. There have been no trades, so not sure what these values are pointing at. The bid-ask spread is way too wide, capital markets are a hilarious disaster, and too much liquidity pumping into reserves/rate caps artificially keeping crap deals alive. So no idea what you are talking about, Yosemite? Every deal that comes to market is a last week 5 cap and every bid is a tomorrow 7, so yeah values really are there...