A REIT specializing in CRE loans on 3,200 apartments in Houston. CMBS investors hit by default on 62 multifamily buildings in San Francisco.
By Wolf Richter for WOLF STREET.
Four Class B and Class C apartment complexes built before 1981, including 3,200 apartments in the Houston area — The Reserve at Westwood, Post Oak Heights, Redford Apartments, and Timber Ridge Apartments — were sold at a foreclosure auction April 4 in Harris County by the lender, Arbor Realty Trust, A publicly traded real estate investment trust specializing in commercial real estate lending. Shares of Arbor Realty [ABR] Almost halved from November 2021.
Investors took the loss, not the banks, and are still on the hook. Often in CRE, it is not a bank that takes the loan loss, but the investors. We just discussed the bank’s exposure to CRE loans, noting that 55% of CRE loans were held by all types of investors, such as Arbor Realty Trust, and/or guaranteed by the government; And we’ve discussed before the huge losses of some office towers, mostly for investors, not banks.
The loan amount on the property is $229 million. The four properties sold for a total of $196.5 million, $32.5 million below the loan price, to Fundamental Partners, a New York-based private-equity firm, according to Bisnow Houston, which confirmed the deal with Arbor Realty.
Arbor Realty took a $32.5 million loss on the loan so far, plus foreclosure costs. According to Bisnow, it continues to be a lender to Fundamental Partners. So it’s still on the hook for what’s left of the loan.
Variable rate mortgages are taken out just before the Fed raises rates. The former owner lost control of the properties, Applesway Investment Group calls itself “a privately held investment firm focused on acquiring stable, income multifamily properties in emerging U.S. markets,” and pitches “passive income from high yielding multifamily investment opportunities.” .to retail investors.
It pursued multi-family purchases focused on low-income properties in the free-money era, and funded projects with variable-rate mortgages. Apple took on most of the debt in the second half of 2021, according to the Wall Street Journal.
It was perfect timing for variable rate mortgages: on the eve of the Fed’s highest rate hike in decades. Interest on one of the mortgages rose from 3.4% to 8%, according to Trep data cited by the WSJ. At least two property purchases were financed with about 80% debt. Applesway’s loss is equal to its equity portion of the property.
In addition, Appleway faced a $1.6-million lawsuit for unpaid work on those properties, according to Bisnow.
Large multifamily default in San Francisco hurt CMBS investors, not banks.
CMBS investors, not banks, were hurt by Veritas’ default on a $448 million loan for 62 old apartment buildings in San Francisco. On the November 2022 maturity date, the joint venture between San Francisco-based Veritas Investments and Boston-based Baupost Group affiliates declined to make a $448 million balloon payment. And they didn’t exercise their one-year extension option. They are just defaulters. Since then the loan has been in special service.
The floating-rate loan, with a two-year term and one-year extension, was launched in late 2020, in the free-money era. The idea of much higher rates didn’t occur to investors, and they jumped into it with gusto when the debt was securitized by Goldman Sachs into two CMBS: $344 million GSMS 2021-RENT and $104 million GSMS 2021-RNT2.
Non-Recourse Debt; If investors end up foreclosing on 62 apartment buildings, that’s all they’ll get, and the losses could be substantial. Given the state of the San Francisco rental market, this is probably the worst option for lenders. They really don’t want to sell these buildings at foreclosure auctions, which would create a huge mess for other landlords as well. Veritas said it is in talks with the specialty service provider. And according to Fitch, which rates CMBS one, it is looking for a partner to recapitalize the properties.
Floating rate mortgages and new supplies.
Special servicing rates on multifamily CMBS – an early indicator of trouble – have risen steadily since interest rates began rising last year. In March, it rose to 3.0%, from 1.7% in March last year, according to TRAP, which tracks CMBS.
Floating rate mortgages took off in the free-money era Defaults are wreaking havoc beyond multifamily, including Veritas Loan, the foreclosure of the Houston apartment property discussed above, and PIMCO’s Columbia Property Trust’s default on a $1.7 billion office loan with two towers in San Francisco.
A multi-family construction boom squeezes older apartments. In 2022, there were 547,400 units of multifamily building starts of two units and larger, the highest since 1986, when the last multifamily boom ended. And that’s up 55% from its peak this millennium in 2005. And that followed 473,800 units starting in 2021, the most since 1987.
Demand for rent and cheap money fueled the construction boom, or accelerated. But now, asking rents are no longer rising and the cheap money is gone and those units are coming on the market. These latest and greatest apartments with modern amenities that people are looking for – mostly upscale, because that’s where the money is – will find tenants if the rent is right, triggering a flight to quality that pushes buildings down the line.
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