After a year and a half of falling oil prices, the downturn’s rippling effects have spilled over into energy related CMBS loans. Based on our analysis, we have identified $684 million of CMBS 2.0 oil exposed loans and REO in Kroll Bond Rating Agency (KBRA) rated (21 ) and non-rated transactions (7) that have been designated KBRA Loans of Concern (K-LOCs). K-LOCs include specially serviced and REO assets as well as non-specially serviced loans that are at a heightened risk of default in the near term.
In its ongoing monitoring process, KBRA has placed increased scrutiny on identifying and monitoring loans in energy driven markets. The time lag between declining oil prices and commercial real estate fundamentals appears to have run its course, particularly in the Bakken Shale Region of North Dakota. As a result, KBRA has been refining its property valuations and loss estimates considering current and expected market conditions in the region. The estimates also factor in costs and expenses associated with liquidating the collateral.
KBRA identified 37 CMBS 2.0 loans and one REO across 28 CMBS transactions with collateral located in oil and gas related markets. The details of these individual assets, as well as our loss estimates, are listed in the Appendix. Properties secured by 24 of the loans and one REO are located in North Dakota, and 11 are in Texas. In addition, two loans are collateralized by properties in Colorado and Oklahoma. By state, the largest loss exposure is in North Dakota where the majority of the assets are found in the Williston and Dickinson markets.
Of the 38 K-LOCs, 30 were assigned estimated losses totaling $162 million. In the aggregate, for the K-LOCs with losses, the weighted average loss severity is 54.3%. Loss estimates were as high as 87.9%, with North Dakota ranging from 23.8% to 87.9% (weighted average of 63.7%) and Texas from 7.4% to 29.3% (weighted average of 17.9%). The largest loss severity was associated with the North Dakota Strata Estates Suites REO asset, which represents 1.9% of the COMM 2013-CR10 transaction. The trust collateral includes two corporate housing projects that at issuance had 77% of the units leased to energy related companies.
The other eight K-LOCs included six from Texas and one each from Colorado and Oklahoma. K-LOC status was assigned to six office properties with oil related tenants, as well as two hotels which generate business from the energy industry. Although, losses were not assigned at this time, the loans are at increased risk of default, as energy related companies reduce their workforce, which in turn impacts their space requirements as well as room night demand for hotels.
Additional information on the K-LOCs and assigned losses are available on our KBRA Credit Profile (KCP) Portal (kcp.kbra.com), a proprietary service that performs monthly transaction monitoring for much of the CMBS universe.
Multifamily and Lodging Most Affected
Oil related economies and companies have been contracting, thereby reducing demand for workers and investments in oil exploration and production. Most affected have been those areas with a high concentration of workers in energy-related jobs. According to the US Department of Labor, North Dakota’s oil and gas employment accounted for 4.8% of its workforce (see Chart 1). As a result, with oil’s plunge, North Dakota’s mining and logging employment growth, most of it related to oil drilling, has turned sharply negative (see Chart 2) on a year-over-year basis. Most impacted has been the Bakken Shale Region as production has slowed and oil rigs idled. Although, this region makes up only a small percentage of the CMBS population, KBRA’s loss estimates for K-LOC’s in this area are fairly high. Furthermore, they have the potential to increase if the global oil glut continues for an extended period.
By property type, most affected have been the multifamily and lodging sectors. Due to their short term leases they adjust to downturns much more quickly than the other major property types. Multifamily properties typically have fairly short term leases (one year or less) when rents can be adjusted, while lodging room rates can change daily. Individual K-LOC losses run as high as 87.9% and 63.4%, respectively for these two property types. In total, the loss severity is 71.1% for multifamily and 38.6% for lodging. Employment losses have led to less demand for apartments in the energy dominated markets, while new projects continue to come on line and add to existing supply. Energy related companies in these markets have reduced or eliminated corporate leases while laid off workers migrate to other states for employment opportunities. In one of the most affected markets, Williston, multifamily asking rents have declined from approximately $2,100 to $1,500 year-over-year through December 2015 according to our review of CoStar Group data. Other third party sources including Apartment Guide indicated that this figure could be lower.
With the demand for lodging, new hotels opened to help handle the flood of oil workers. Not only are the more oil dependent economies experiencing declining hotel occupancies and rates, but due to its exposure to the oil and gas business, Houston lodging has experienced weaker demand. According to Smith Travel Research (STR), on a full year-over-year 2015 comparison, Houston’s RevPAR fell by 3.3% primarily the result of lower occupancies. For all US markets, RevPAR increased by 6.3% during the same period. Vacant office space is also increasing in Houston, as companies reduce their space requirements through lease terminations, nonrenewal of expiring leases, and sublease of their excess space. We have identified $217 million of Houston office loan collateral that were assigned K-LOC status.
For the other major property types, retail is expected to be impacted especially in markets where there have been major employment losses, with fewer shoppers to support existing centers. Warehouse space may also come under pressure especially for facilities used for storing oil drilling supplies and equipment.
KBRA believes that the fallout from the oil decline will mostly be confined to those properties in energy related markets. However, in these and other markets, CMBS collateral with tenants that are primary and ancillary suppliers to the energy sector may ultimately succumb to the downturn’s persistence.