Special servicers are a unique breed. Often busiest when the economy is the worst, these specialists pretty much oversee the movement of distressed hotels when conditions back owners into economic corners from which they can’t recover.
The Securities and Exchange Commission defines them as “any person responsible for the management or collection of the pool assets or making allocations or distributions to holders of the asset-backed securities.”
Many of the special servicers dealing with distressed hotel assets are actually quite colorful and energetic people who work extremely hard to find the right balance for troubled properties. They have a lot to say until it’s time to be quoted in the press. They want no part of that.
So as I made the annual trek to Dallas for Prism Hotels & Resorts’ “Fishing for Solutions” conference last week, I felt like I had made a deal with the devil. I was invited to attend and cover the conference with the caveat that I could sit in all the sessions—many of which dealt with special servicing—as long as I didn’t directly quote any of the special servicers. Talk about being between a rock and a hard place. I never like using anonymous sources for articles, so it was a tough deal to agree to. But as HotelNewsNow.com’s quest is to present vital information for hotel decision makers, I agreed to the scenario and am glad I did.
The first panel of the conference, titled “New Developments in Loan Servicing” was a gold mine of information. Speakers included Kevin Donahue of Midland Loan Services, Michael O’Hanlon of Berkadia Commercial Mortgage, Clark Rogers of KeyBank Real Estate Capital and Tom Biafore of Kilpatrick Townsend & Stockton LLP. All are considered experts in hotel loan servicing, and while the following isn’t attributed to any single one of them, it is a general idea of the state of servicing (in order of discussion):
• The pace of loan workouts is starting to exceed the pace of transfers. The general feeling was that absent another economic shock, the levels of loans in workouts will begin to decline over the next couple of years. The shocker: it might take as many as five years to get back to normalized levels.
• The window that opened in the capital markets earlier this year during which borrowers were able to get “decent” financing has closed.
• It appears hotel owners no longer expect miracles when they open discussions with special servicers. The best quote of the year that I can’t attribute comes from one of the panel’s speakers: “Borrowers expected us to carry a magical modification wand with us two years ago,” the panelist said. “Borrowers thought all they had to was say they wanted it modified and go online and check the drop-down box for when they wanted it to mature.” Of course, many owners found out the hard way that isn’t the way it works.
• There is still more than US$80 billion in hotel loans being addressed by special servicers. The overall universe of commercial mortgage-backed securities is at US$630 billion—down from US$850 billion at its peak a few years ago.
• A lot of equity is chasing hotels in gateway cities such as San Francisco, New York and Washington, D.C. Panelists marveled at the values of hotels in such markets, and they wondered what was going to be the driver for hotel sales in secondary and tertiary markets. There is an enormous demand for big-name trophy assets.
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• There are huge mega loans in special servicing that still need to be worked out.
• Floating interest-rate loans provide the biggest obstacle for hotel lending. Many of those loans are reaching the end of three-year extension programs. Many of them are performing well with the current interest-rate environment—they usually are at 70 basis points above the London Inter Bank Offered Rate. “They are performing at 70 bits, but if you try to refinance them at 3 or 4 (percent above LIBOR) they don’t work,” one panelist said. Floating-rate loans by law have limited extension possibilities and other limitations, which make them challenging for special servicers. Troubled portfolios with floating rates have to be dealt with as an all-or-nothing scenario.
• “Hotels took advantage of the floaters more than other products,” one panelist said.
• The hotels that are being sold through special servicers are getting “handsome prices,” one panelist said. Overall, buyers are paying more than the servicers expected—mainly because the buyers believe they are getting deals. “They look at it as getting a 4% return is better than anything else out there,” one panelist said.
• The servicers, who readily admit their top priority is recouping the lender’s money, were pleased they have held on to a large number of hotel assets. If they would have liquidated loans at hotel prices in 2008, 2009 or 2010, there would have been huge losses. By waiting until the hotel industry’s metrics stabilized, they were able to get much more of their money back.
• Servicers are open to considering up to a year extension for troubled assets, but terms are stricter—higher fees and more reserves typically are required. “Modifications we’re willing to grant are becoming more difficult for the borrower simply because we have more options, other means at our disposal that we might not have had in 2009,” one panelist said.
• The special servicers expect to see a declining pace of bank closures as the 2012 election draws nearer. Seventy-six institutions have closed this year, down from about 130 last year. More than 800 banks are listed on the “problem-institution list,” and the panelists agreed political agendas will slow the process.
• 2012 could see some limited issuance of CMBS loans. “People may be putting their toe in the water, but not their whole foot,” one panelist said. “Until (the economy) gets stabilized, the originators are real scared and will be cautious.” Another panelist said something will need to step up as a lending vehicle in the US$3.5-trillion U.S. real-estate market. Banks and life-insurance companies can’t be expected to do it all, he said.
• The general consensus was that status quo will rule hotel lending through 2012. It’s all about jobs, consumer confidence and eliminating uncertainty.
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