Commercial real estate heading South

Extended Stay America will likely be taken over by lenders soon, according to the WSJ:

Extended Stay’s difficulties signal a new phase of distress in commercial real estate, because they arise directly from the weakening economy. Until now, problems have mostly involved developers unable to obtain refinancing for otherwise healthy operations…

During the real-estate lending boom, Wall Street originated $600 billion of commercial mortgage-backed securities. The default rate on commercial mortgage debt has remained near historic lows, even while residential-related debt suffered a severe downturn.

But that is now beginning to change, sending new shock waves into much-battered banks, private-equity funds and other financial institutions that participate in the $1 trillion commercial real-estate debt market. Hotel landlords typically are the first to feel the pain in a downturn because hotels have the shortest leases in real estate — one night at a time.

An Extended Stay failure reveals how a commercial real-estate downturn could ripple through the financial system. When Lightstone Group and preferred equity partner Arbor Realty Trust bought Extended Stay from private-equity firm Blackstone Group in 2007, it borrowed more than $7.4 billion. Wachovia Corp., Bank of America Corp., Merrill Lynch & Co. and Fortress Investment Group put in $3.1 billion in so-called mezzanine financing, which isn’t as highly secured as other types of debt. People involved in the transaction say an analysis of the company’s value shows that much or all of the mezzanine debt could be wiped out in any renegotiated deal.

I will be watching CalculatedRisk and Mr. Mortgage very closely to learn how things are trending for commercial real estate.

Posted in Wall Street, bankruptcy, credit crunch |