It is an article of faith that every commercial real estate downturn is different in one way or another, invariably eliciting a unique response from the private and public sectors.
The savings and credit crisis of the 1980s and 1990s saw the failure of more than 700 savings and loan associations. The S&L crisis spawned Resolution Trust Corp., which shaped the sale of NPLs both as whole loans and, for the first time, through a series of commercial mortgage securitizations, creating the secondary market for commercial loans that we know today.
The comparative surge in capital markets in 1998 caused by the failure of Long-Term Capital Management and the Russian ruble crisis was greeted with a wait-and-see approach before markets largely normalized within a few months.
Overall, the Great Recession saw a patient response to calamity from the federal government and many financial institutions. Thanks to TARP, TALF, HAMP and a series of other initiatives, financial markets and institutions have been inundated with liquidity in various ways, allowing time for markets to normalize and stocks to stabilize. Rather than adopting the ‘mark and drop’ approach that prevailed during the S&L crisis, ‘stretch and pretend’ has become the mantra of many, and it has largely worked.
While the government encouraged macro-level expansion and simulation during the Great Recession, the approach in the recovery trenches was largely traditional, especially for defaulted loans managed by special departments and nonperforming loans purchased by debt fund. Typically, if a borrower was prepared to inject additional capital into an asset, the lender would often be inclined to devise a bearable solution. This halfway approach made sense in today’s environment.
With the harsh reality of COVID-19 unfolding, we are once again reminded that every downturn is different in important ways. Under the current circumstances, the pandemic is impacting businesses and financial communities in extraordinarily deep, broad and immediate ways. The initial response from many lenders has been measured and tolerant, recognizing that all aspects of the economy are under attack. As an example, with America essentially locked in, the outlook for the hospitality and food services industries is bleak. In cities and states where shelter-in-place has been mandatory, the only significant source of income may come from alternative uses such as housing for medical staff, international students stranded in states and, in some cases, in as temporary medical facilities. Even in communities that are not yet closed, hotel establishments are struggling to stay operational. Adding to the difficulty of assessing real estate prospects, the length of these closings is unknowable. The answers to these questions rely more on epidemiological analysis than ARGUS analyzes.
Recent events have accelerated faster than anyone could have imagined just a few weeks ago, prompting a plethora of responses from governments, agencies, and federal and state regulators. Congress has enacted the $ 2,000 billion Coronavirus Aid, Relief and Economic Security Act, which offers an array of programs designed to provide relief to businesses and individuals. The Federal Reserve, FDIC, and other key federal and state regulators have issued an interagency statement encouraging financial institutions to work cautiously with borrowers under pressure due to COVID-19, ensuring that regulators will not automatically categorize all COVID-19. – loan modifications linked to restructuring of troubled debts. The Federal Reserve has implemented the term asset-backed securities lending facility to provide a source of liquidity for consumer and business loans. Fannie and Freddie have imposed moratoriums on foreclosures, extended favorable forbearance agreements, and waived penalties and late fees. HUD has announced a 60-day moratorium on the FHA while other major banks roll out similar programs. Etc.
As for the commercial real estate industry, the response of financial institutions to the flood of borrower accommodation requests has parallel dimensions to today’s unique circumstances. Yes, by definition, all real estate is unique requiring an approach adapted to the specificities of each asset. This will always be the case, especially when the credit issues are resolved. But for now, the initial response from the lending community has been measured and moderate.
Aside from borrowers who were already in the recovery pipeline with unrelated challenges, financial institutions appear inclined to request a waiting period for a certain period, favorably inclined to a short-term forbearance that will make the bridge until a time when the severity and response of public policies to the pandemic offers some clarity. This measured and sensible approach not only takes into account the source of the pressure on most asset classes, but is colored by the prevailing feeling that we are all in the same boat. While global infections have temporarily shut down sources of income, this does not reflect the operational quality of a property, the sustainability of a capital structure, or the proficiency of ownership and management of the property. The source of the impairment sets this crisis apart from others of the recent past.
Hope may not be a strategy, but history suggests that betting against innovation in science and medicine can be a sucker bet. As human ingenuity finds a way to reduce, treat and possibly defeat the virus, borrowers and lenders will return to their traditional roles, striving to find solutions to recapitalize unique assets with great geographic diversity and a range of considerations. While we await and encourage the medical response, a pause to catch our collective breath seems both humanly appropriate and technically maximizing NPV.
While Kenneth Rogoff and Carmen Reinhart’s instant classic This time it’s different: eight centuries of financial madness illustrates how naïve it can be to characterize a financial crisis as truly different, the fact remains that this reversal has at least one distinguishing feature. In previous cycles, solutions were largely in the hands of real estate and finance professionals. This time around, lenders and borrowers are bystanders in many ways, relegated to rooting for the medical community to break the fever.