By the Numbers

New eviction protections add pressure in small multifamily CMBS

Mary Beth Fisher, PhD | January 8, 2021

This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors. This material does not constitute research.

The outsized toll of the pandemic on low-to-moderate income tenants has been percolating through to multifamily property owners who rent to them. Eviction moratoriums designed to protect tenants have shifted some of the burden of income loss onto small landlords. That impact has come through clearly in the Freddie Mac small balance program, where loans in forbearance have been migrating into delinquency and default at an accelerated pace. An extension of eviction moratoriums without additional help for small multifamily property owners will likely put additional pressure on this sector.

Freddie Mac’s multifamily small balance loan program only comprises $24 billion or 7.4% of the loan balances outstanding between the FHMS and FRESB shelves (Exhibit 1). Overall $8 billion or 2.5% of the $320 billion unpaid principal balance (UPB) between the two programs has entered or is currently in Covid-19 forbearance. The small balance loan program has 11% of loans outstanding in forbearance compared to only 1.8% of K-series loans securitized on the FHMS shelf.

Exhibit 1: Freddie Mac multifamily loans outstanding

Note: * reflects all loans currently outstanding that are or were in covid-19 related forbearance. Some loans that have already been bought out of the pools are not included in forbearance totals. All loans that are 90+ days delinquent or in special servicing are presumed to default.
Source: Bloomberg, Amherst Pierpont Securities

Of the loans that entered forbearance, over 5% have already fallen 90 days or more delinquent or defaulted, again heavily weighted towards small balance loans. However, many of the K-series loans that entered forbearance and are in some stage of delinquency are also on smaller properties (Exhibit 2). The average number of units for FHMS loans in forbearance is 244 but most of the delinquent loans have between 10 and 130 units. Small balance loans are typically for smaller buildings with 32 units on average for loans in forbearance.

The issue with smaller buildings is that their breakeven occupancy ratios–the percentage of the property that must be leased in order to cover all expenses and debt service obligations–tend to be higher than those of larger buildings. On average, an FHMS loan with 244 units has a breakeven occupancy rate of 78% compared to a FRESB loan with 32 units and a breakeven occupancy rate of 83% (Exhibit 2).

Exhibit 2: Breakeven occupancy ratios are higher for smaller buildings

Note: Breakeven Occupancy Ratio = (Total Operating Expenses + Total Debt Service) / Rental Income at 100% Occupancy. Ratio calculated using data as of cutoff date. Last update as of 1/4/2021.
Source: Bloomberg, Amherst Pierpont Securities

On average, occupancy rates have declined since the cutoff date, but in most cases are still well above the breakeven ratios. The debt service coverage ratios in many cases have declined because eviction moratoriums have kept tenants in place for months although rent is partially or entirely not being paid. Moreover, the impact of the pandemic on the courts combined with the eviction moratoriums in many jurisdictions have brought routine eviction cases nearly to a standstill (Exhibit 3). The historical average of eviction filing cases was 4,000 to 6,000 a week in New York City in from 2016 through 2018. Eviction filings in 2020 were running below average in the early part of the year at about 3,000 a week, but the pandemic dropped filings effectively to zero in April through June.

The New York state moratorium on eviction filings expired on June 20, 2020, but additional protections provided by the Tenant Safe Harbor Act and automatic suspension of newly-filed eviction cases kept filings low throughout the summer and into the fall. Even the execution of writs of eviction on cases filed prior to the pandemic have been suspended until January 2021.

Exhibit 3: Eviction filings by week in New York City

Source: Eviction Lab

Although these protections provide an ongoing safety net for tenants impacted by the pandemic, it does so in part by shifting some economic losses onto multifamily property owners. An extension of eviction moratoriums without providing additional help to small multifamily property owners could raise default rates to 4% of all Freddie Mac small balance loans outstanding resulting in losses of 2.4% of FRESB collateral assuming a 60% loss severity (Exhibit 4). The table shows top 25 deals with largest potential losses. Projected losses across the 74 FRESB deals with loans currently or previously in forbearance total $571 million. This would represent 2.4% of FRESB UPB currently outstanding.

Exhibit 4: Potential losses on FRESB shelf

Note: Projected default rates and loss severities are estimates only and represent a very conservative or “worst case” scenario; this assumes higher than the historical average loss severities of 40% for multifamily loans and high transition rates from loans from delinquency into default. Current cumulative loss amounts are from Bloomberg. Projected losses ($) = potential losses (%) * deal amount currently outstanding ($).
Source: Bloomberg, Amherst Pierpont Securities

Even based on accelerated transition rates from delinquency into default of loans in forbearance, none of the deals would breach the loss absorption capacity of the B class bonds, though a handful of those bonds could suffer significant write-downs.