By the Numbers

CRE CLO collateral performance weakens a bit

Mary Beth Fisher, PhD | October 20, 2023

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.

Higher financing rates and a moribund sales market continue to keep commercial real estate under pressure. Performance in loans backing CRE CLOs has been weakening, with higher delinquency rates mostly due to office and retail properties. Performance relative to CMBS is a mixed bag, though that’s heavily influenced by differences in collateral composition across property types and the ability of CRE CLO managers to modify or replace troubled loans in managed pools. CRE CLO investors looking for cleaner collateral should focus on multifamily deals, where performance is robust. Those willing to venture into more challenging collateral should move towards deals with larger office and retail exposures.

CRE CLO performance broadly is tied to its collateral distribution, which currently is heavily weighted towards multifamily (71%) (Exhibit 1). The next largest property type is office, comprising 13.5%, followed by hotel and lodging (5.3%) and industrial (2.8%). This has shifted a lot over time. In early 2018 multifamily was only 35% of the collateral pool, office was 25% and hotel and lodging was 14%. Pool composition began to shift due to the variable of the pandemic on the property types, as CRE CLO sponsors and investors migrated heavily towards the better performing multifamily space.

Exhibit 1: Collateral composition by property type

Note: Data as of 9/1/2023.
Source: Intex, Santander US Capital Markets

Delinquency rates across all CRE CLO collateral have been rising for the past year (Exhibit 2). There was a surge in delinquencies during the pandemic, but that subsided and performance improved. Delinquencies hit a local trough of about 0.4% in the first half of 2022, then gradually began to increase. The delinquency rate rose above 2.0% in September 2023 for the first time since the depths of the pandemic.

Exhibit 2: Delinquency rates across all CRE CLO collateral

Note: Data through 9/1/2023.
Source: Intex, Santander US Capital Markets

Although multifamily makes up 71% of the collateral, it is contributing very little to the overall delinquency profile of CRE CLOs. The delinquency rate for multifamily in CRE CLOs was 0.8% in September. The deterioration in collateral performance is coming primarily from office and retail. Office delinquency rates had been rising for several months, then increased sharply in September (Exhibit 3) to 7.5%.

Exhibit 3: Delinquency rates of office collateral in CRE CLOs

Note: Data through 9/1/2023.
Source: Intex, Santander US Capital Markets

Retail collateral in CRE CLOs has actually been struggling the most, with delinquency rates in the 8% to 10% range for the past two quarters (Exhibit 4). This has also pushed overall performance down, despite retail representing only 1.4% of the collateral pool.

Exhibit 4: Delinquency rates of retail collateral in CRE CLOs

Note: Data through 9/1/2023.
Source: Intex, Santander US Capital Markets

Lodging took a hit in CRE CLOs during the pandemic, but most loans cured or were bought out from pools. Current delinquency rates for hotels in CRE CLOs are 1.2%.

Comparison to CMBS

It can seem a bit disingenuous to compare CRE CLO performance to that of CMBS. The loans in CRE CLOs are transitional, floating-rate and typically of shorter maturity than 10-year conduit loans, even with extension options. Because CRE CLOs are not REMICs, like conduit and SASB structures, the collateral pools can often be managed to replace or modify troubled loans. And CRE CLO sponsors – who usually retain 20% or more of the equity – are exceptionally motivated to work with borrowers and keep projects and financing terms manageable.

Still, both products are governed to some extent by the overall trends in commercial real estate. The overall delinquency rate for US CMBS rose to 3.8% in September 2023, which was up from 2.5% a year earlier. This was mostly driven by the increase in office delinquencies, which makes a much larger proportion of CMBS than of CRE CLOs.

Delinquency rates by property type in CMBS are also similar to those of CRE CLOs (Exhibit 5). Office delinquency rates in CMBS rose to 5.6% in September, while multifamily was 1.3%. Retail delinquencies in CMBS continue to hover around 6.4%, some of which is a holdover from the pandemic, while some new retail loans in CMBS have also become non-performing.

Exhibit 5: CMBS delinquency rates by property type

Source: S&P Global Ratings

Mary Beth Fisher, PhD
marybeth.fisher@santander.us
1 (646) 776-7872

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