Retail loan delinquencies peaked during the summer, and though they remain stubbornly high, levels have improved. According to Trepp, the delinquency rate on retail commercial mortgage-backed securities loans dropped from 18 percent in June to 12.7 percent in January. The Mortgage Bankers Association’s latest CREF Loan Performance Survey shows a similar positive trend, as the balance of delinquent loans across lender types dropped from 12.9 percent in November to 11.8 percent in January.

For hotels, borrowers have tapped into capital reserve accounts to keep their loan payments current, but retail sector data reflects some “true” curing of distressed loans, notes Manus Clancy, senior managing director of applied data, research and pricing for Trepp. Some retail loans have received temporary relief on loan payments, maturity extensions and reserves. Most of the improvement, however, has been a function of malls reopening and tenants that have continued to pay rent, Clancy says. That has allowed borrowers to remain current on loan payments.

The improvement in delinquencies is promising given the COVID-19 vaccine rollout and signs of economic improvement and more government stimulus. However, retail is still in a precarious position, particularly in the mall sector, adds Clancy. Transparency into CMBS loans paints a grim picture. About half of the $130 billion of CMBS loans backed by retail assets show signs of stress. In addition to the 12.7 percent of retail CMBS loans classified as delinquent, meaning more than 30 days past due, 17 percent were in special servicing and another 21 percent were on the watch list for potentially entering special servicing, according to Trepp.

Similarly, many retail owners see a light at the end of the tunnel, but others may find they don’t have the time or the capital to ride out the storm. “Some people who think they can kick the can down the road and the economy will recover and those assets will rise with it may be in for a rude awakening,” said Jay Maddox, a principal in the capital markets group for Avison Young’s West Los Angeles office. “There were systemic issues with retail before this crisis hit, and the shift to online shopping was greatly accelerated by the pandemic.”

Trifurcated is the new bifurcated

The bifurcated market of winners and losers that existed pre-pandemic has shifted to a trifurcated market: malls, essential retail-anchored centers and midsize centers with discounters and hobby stores, says Clancy.

Malls have struggled due to closures of both department stores and inline tenants. “In that area, we have seen really high delinquency numbers, and for those that have gone to a workout specialist, we have seen several for which the value of the collateral has been lowered by as much as 75 percent,” he said. For example, the $62.5 million loan for the 525,000-square-foot Burnsville Center in suburban Minneapolis resolved with an auction in December. The result was a write-off of $45.1 million, a 72 percent loss for bondholders. The $58 million loan on the 730,000-square-foot Newgate Mall in Ogden, Utah, also is on the watch list, its value reportedly having dropped by more than 75 percent, according to Trepp.

The bright side in the newly trifurcated market is occupied by shopping centers anchored by essential retailers like grocers, home improvement and big boxes like Walmart, Target, Home Depot and Lowe’s.

The third part, which has surprised to the upside with its strength, is the midsize center occupied by tenants like Marshalls, T.J.Maxx, Hobby Lobby and Michaels, adds Clancy.

People knew before the pandemic that retailer closures and bankruptcies were going to make it tough for some mall owners to refinance. The pandemic accelerated the inevitable for some struggling properties. The stronger malls that have been able to retain tenants and keep their loans current will do OK, says Clancy. At the same time, there is still a small swatch of 10 to 20 percent sitting in the middle that could tip either way depending on the path of the recovery in 2021, he says.

Certainly, not all malls are struggling. According to Moody’s Analytics, the 24 largest U.S. malls continue to post solid financial metrics and loan performance. Recently reported debt service coverage ratios for those properties are all well within a “comfortable” range between 1.4x and 5x. Moody’s also reported that all 24 of the loans are current, two have been modified in the last nine months and only one is in special servicing.

Solutions to distress are mixed bag

A hallmark of the COVID-19 recession is that it isn’t a one-size-fits-all market. Every situation is very different. As a result, the solutions that lenders and special servicers are applying to distressed loans depends on the individual strength of the asset, the tenant base, the borrower’s track record and what’s happening in the local market.

Some borrowers are throwing the keys back to the lenders, which has resulted in distressed loan sales at steep discounts to value. There are cases, such as Plaza Mexico in Los Angeles, in which the mezzanine lenders are foreclosing on their interests, notes Maddox. In other cases, borrowers are putting up more equity to hang on to assets or lining up rescue capital to help cover debt payments, which is both expensive and dilutive, he adds.

The retail sector experienced a surge in forbearance requests in the spring and summer following initial government shutdowns. In many cases, lenders that granted forbearance allowed borrowers to defer some or all of their debt service payments. “Now those borrowers are coming back and asking for more assistance,” said Maddox. “At some point, the lenders and servicers are going to require them to put more money in if they want longer-term restructuring.”

For some special servicers, distressed retail loans fall into two buckets, those that are struggling because of the pandemic and those for which the pandemic exacerbated existing problems. “For the loans that were transferred to us in April, May and June because they were having issues related to COVID — in all likelihood, those have peaked,” said Curt Spaugh, senior director for SitusAMC, which provides special servicing and asset management services for distressed assets. SitusAMC has worked out forbearance agreements for most of its special servicing situations. Those assets that were struggling pre-COVID-19 likely will continue to struggle.

Another sector facing near-term challenges is retail and mixed-use assets in urban areas where commuters aren’t going into the office and people aren’t traveling to attend conferences, sporting events, concerts and the like, says Spaugh. Office vacancies in San Francisco, for example, are at a 10-year high, at 17 percent, which is going to impact the downtown retail base, he adds.

Forbearance measures put in place in the spring and summer started coming to an end in the fourth quarter of 2020 and first quarter of 2021. The question is: What’s next? CMBS servicers are doing what they can to maximize recovery of capital for bondholders, and those decisions are case by case.

“Forbearances could be put in place for deals that truly just need a little bit more time,” said Spaugh. Loans that seem to have longer-term problems are going to be a tough sell for additional forbearance. “We are open to restructuring these loans and modifying these loans,” he said. The caveat is that special servicers like SitusAMC want to see sponsors that have realistic plans, are willing to put new equity into the deal and have the skills to turn around situations that were not their making. “When they show us they are in it for the long haul, we get more comfortable with that,” he said.