Spencer Kirsch, Vice President of Loan Sales & Trading, describes the state of the secondary market for hospitality loans, along with how buyers and sellers have altered their view of the sector over the last several months.
It’s no secret how material the effect of COVID has been on the Lodging sector in the U.S. With COVID-restrictions in place and a sharp decline in business and leisure travel, the occupancy, ADR, and RevPar figures across the industry plummeted by the end of 2020. Per TREPP, in Q4 2020, the overall delinquency percentage of lodging loans on bank balance sheets was 13.3%, significantly increased from the 1.1% delinquency rate in the first quarter. Additionally, by Q4 2020, lodging occupancy rates had dropped to 43%, well below the 72% rate present in Q4 2019.
Hospitality-focused debt firms and private equity firms alike have quickly identified an opportunity to raise capital to deploy in the sector. These firms banked on the opportunity to buy loans at discounts and restructure debt at higher interest rates or take title of the real estate. However, this capital was raised at a point when banks and other note holders were first starting to implement deferral or forbearance plans and were not ready to sell deferred loans at a discount and book losses. This led to a 6-month period of little-to-no hospitality loan transactions executing in the market from Q4 2020 through Q1 2021.
Fast-forward to present day, when the majority of deferral periods have ended or are close to ending, yet the sector is still a-ways away from stabilization and hotel bottom-lines are insufficient to cover debt service. Banks and other note holders who are unable or unwilling to implement further deferrals for impaired assets or don’t want to go through foreclosure processes are now more amenable to selling loans and realizing a controlled amount of loss. This has increased the opportunity for investors to acquire impaired hospitality loans at a discount to Par, with exit strategy optionality in-play.
At the same time, there remains a plentiful amount of hospitality-focused investment capital waiting to be deployed, along with a newly-formed, positive outlook on the industry. June in particular has brought upon a number of encouraging signs, as the country hit the 50% mark of vaccinated individuals, flight traveler count increased to more than 2 million for the first time since March 2020, and June hotel occupancy hit 61% across the US, which is the highest percentage in the pandemic era. The combination of excess dry powder and positive economic trends has resulted in an increased amount of investor interest, as well as tamed forward-looking default projections and tightened required yields. Ultimately, these factors have enabled sellers to trade deferred, scratch & dent or non-performing loans at a manageable discount, which has proved to be more economical than negotiating a new deferral or going through a foreclosure process .
We at Mission have been quite active in advising sellers of performing and non-performing hospitality loans over the last quarter and have a number of hospitality portfolios in the pipeline. We have represented clients in transactions executing anywhere from manageable discounts up to Par pricing, while garnering interest from a wide-variety of investors, including banks, pension funds, hedge funds, private equity firms, and others. We expect the hospitality market to remain liquid through the foreseeable future as forbearance periods continue to end and debt holders continue to offload distressed exposure while the sector gradually moves toward stabilization.