Commercial Office Owners Face Challenging Future
Mortgage holders representing an investment of more than a trillion dollars nationwide are facing refinancing decisions in the next two years.
Last Summer, when Barry Sternlicht handed back the keys to Tower Place 100, the 29-story class A office building off Piedmont Road in the heart of Buckhead, the building was almost half empty. Just over 60 percent of the more than 600,000 square feet of commercial space in the building was rented.
That was sharply down from 87 percent in 2018 when Sternlicht’s Starwood Capital Group took out a mortgage of more than $200 million to buy the Atlanta landmark. So, Starwood, which is a major corporate landlord with more than $115 billion in assets under management, was unable or unwilling to refinance the loan or pay it off. The building went back to the bank.
Last week, Sternlicht estimated that lenders have absorbed $1.2 trillion in losses from loans made for office buildings, although he admitted to Bloomberg News that “nobody knows exactly where it is,” and that it could put many smaller banks under considerable pressure.
In Atlanta, like most major office markets around the country, commercial portfolio managers are crunching the numbers and deciding whether to hold on to troubled office buildings or let them go.
Office occupancy rates dropped sharply during the pandemic as workers stayed home to work from behind their computer on the dining room table or in the bedroom. But even after the public health emergency has faded, demand for office space has been sluggish.
For economic observers like Jeffrey Humphreys, director of the Simon Selig Center for Economic Growth at the University of Georgia, Atlanta’s depressed office market has been aggravated by the surge in new construction that has occurred in the metropolitan area in recent years.
“I think we’re very oversupplied in respect to office space, particularly after the work from home phenomenon, which I think is becoming more permanent. It’s not temporary. And so, I’m worried about the office market becoming even more oversupplied.”
According to the National Association of Realtors, the trend to work from home rather than commute to a high rise is just one of the issues commercial real estate investors are facing. According to the realtors, “layoffs and higher interest rates further increased office space availability in the market.”
Moody’s Analytics, the financial services data firm, reported that in the fourth quarter of 2023, the national office vacancy rate set a historical record of 19.6 percent, the highest rate in almost 45 years.
The rise in interest rates brought on by the Federal Reserve Bank’s desire to slow spending and control the threat of further inflation is certain to make life more difficult for those who manage a commercial real estate portfolio. According to Bloomberg, the financial news service, big corporate investors like Blackstone and Brookfield Asset Management have stopped making payments on buildings that are money losers.
The analytics from Trepp, an important source of data about the commercial office market, indicates that the delinquency rate for offices with commercial mortgage-backed securities has nearly tripled in the past year.
Amidst the prospect of continued high interest rates, the debt on over half of the $2.9 trillion in commercial mortgages will need to be renegotiated by the end of 2025. Since a number of those loans were negotiated at attractive rates during years of easy credit, the refinancing of all that money is likely to weigh heavily on local and regional banks which, according to the statistics from the Bank of America and Goldman Sachs, are responsible for nearly 70 percent of the lending.
According to Humprey, there’s considerable nervousness in the banking industry these days.
“I think that it’s a very uncertain time right now for commercial real estate. Because of the very aggressive actions of the Federal Reserve to tighten credit rates, lenders are tightening lending standards.”
And it’s not just the United States that’s having trouble managing bad commercial property investments. Real estate in China has been plunging for more three years and, according to Bloomberg, the decline in property values has spread to Germany and Scandinavia where loans made with cheap money turned bad when interest rates rose. According to the news service, internationally more than $220 billion in bonds and loans linked to property is currently distressed.
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