News headlines have been dominated by retail giants’ woes since the recession, with Sears, J.C. Penney, Sports Authority, Macy’s and Aeropostale all announcing bankruptcies or store closures that have trickled down in the form of heavy losses for regional malls in secondary and tertiary markets.

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Of the $200 billion in commercial mortgage-backed security loans set to mature by the end of 2017, approximately 28 percent are backed by retail properties.

Roughly $17.3 billion of retail loans in CMBS are set to mature this year alone, and a further $30.4 billion in 2017. Of the $17.3 billion, $2.6 billion—or 15.2 percent—is already specially serviced. Of the $30.4 billion maturing next year, $2.4 billion is specially serviced.

The numbers don’t appear to bode well for the opportunity to refinance these maturing loans, and some loans will have more of a struggle than others, according to industry experts.

“We’ve started tracking properties with high loan-to-value ratios in CMBS, as these are the loans that may have some difficulties in the next year or two,” said Edward Dittmer, a vice president and co-head of CMBS surveillance and ratings for Morningstar Credit Ratings. “Where you have collateral that includes questionable tenants—those that have been through this wave of retail bankruptcies—those are the loans that are going to have some difficulty. And then obviously with properties where they haven’t been able to fill these vacant spaces that are about to be given up by some of these bankrupt tenants—we think there could be problems as well.”

Additionally, keys are already being handed back to the special servicer in several instances where the retail property may be cash flowing but the lender has decided not to put additional equity toward a refinancing due to a high loan-to-value ratio on the loan.

The $140 million Westfield Chesterfield CMBS loan, which makes up 6 percent of the Lehman Brothers-UBS sponsored LBUBS 2006-C6 transaction, was current when it was transferred to special servicing in April because the loan’s sponsor, CB&L Associates Properties, did not expect to refinance the loan at maturity. The loan, backed by 641,800 square feet of a regional mall in St. Louis, was placed on the Morningstar watchlist in September of 2015 due to maturity risk. Although the loan had a 1.25x debt service coverage ratio on 90 percent occupancy when it hit the watchlist, its 7.2 percent debt yield was considered low by Morningstar, and its performance had deteriorated with net cash flow being down over 30 percent since issuance.

CBL categorized the mall as a “Tier 3” asset with sales under $300 per square foot and placed the mall on its list of non-core/lender malls in December 2015. Other REITs, such as WP Glimcher, are taking a similar path in choosing not to refinance retail loans on lesser-quality assets that have little-to-no asset value. The REIT, formed when Simon-spinoff Washington Prime Group acquired Gimcher Realty Trust, commented in a January investor presentation that it considered the exit strategy for five malls to be “an assumed transition to lenders.” The loans on the malls, in secondary and tertiary locations, were underwritten at the peak of the CMBS market with little-to-no amortization, according to a Morningstar report, which states that “Aggressive underwriting, combined with stagnant or deteriorating performance almost certainly led to Glimcher’s decision.”

Though a chunk of retail properties backing CMBS loans have had their appraisal slashed, plenty of other key properties that back large amounts of debt are still priced accurately and are positioned for refinancing, said Sean Barrie, an analyst at Trepp.

“Though big-box closures and struggling malls in secondary and tertiary markets have spelled doom and gloom in the eyes of many, the demise of retail real estate has been overstated,” Barrie said. “Current debt service coverage ratios and occupancy levels on many loans are above the minimal requirements for refinancing, and property fundamentals are still on solid footing. The main question for retail refinancings will not be if, but from whom?”

With credit tightening and spreads widening so significantly at the beginning of 2016 and approximately 13 percent of retail loans maturing in 2017 already delinquent, the special servicers’ “triage rooms” have been kept very busy. “The special servicers have a very important role because they are the ones who are making decisions regarding how to manage the real estate and how to manage the collection process,” said a CMBS bondholder.

Troubled loans are typically transferred to the special servicer when 60-days delinquent or at risk of “imminent default”—where the loan may still be current. The special servicers have a few options when working with borrowers to resolve the loan, including a loan modification, the borrower’s “consent to foreclose” or handing back the deed, or a sale. In some cases, the modification may result in the loan being successfully returned to primary servicing.

There is no way to fast-track these resolutions, but nothing is done in the CMBS trust’s favor.

“Special servicers are generally not going to take very aggressive stances in resolving these distressed loans,” the bondholder said. “They are going to let them play out, go through the court systems and listen to borrowers’ presentations on modifications. The special servicer can’t resolve loans in an expedited way to mitigate loss. It’s not like that. You’re operating real estate, and it takes time. Sometimes time is on your side, and sometimes it’s just not.”

Indeed, servicers have to consider a confluence of factors when working with a defaulted mortgage on a wounded property, said John D’Amico, the director of special asset management at Trimont Real Estate Advisors.

“We’ll look at the tenant strength, the rollover of the tenants to see where they might go in the future,” he noted. “We’ll look at property conditions, any deferred maintenance and [capital expenditure], before we do anything with a property. There’s got to be cash flow to support a new loan. We’re not going to modify [a loan] unless there are some of those factors that can be met.”

A slower pace may not always be a bad thing, however. The trust often puts a receiver in place, who will then try to release the asset. “They don’t leave it there just to die,” the CMBS bondholder said. “They go out and try to find the proper management team and try to reposition the asset, but in most cases they won’t put capital improvements into it—they just monitor and manage the asset and try to increase the occupancy so they can sell it at a better value in the future.”

Typically, a sale won’t occur unless there is very low recovery value. Pooling and servicing agreements clearly state that there’s a misalignment of interest between the senior and junior bonds, most prominently in the legacy CMBS world. “Junior bondholders don’t want principal to erode from their bonds because then they are out of control, interest, deferred interest or recovery interest,” the bondholder said.

At the end of the day, however, it seems borrowers are taking a loss and are relinquishing their properties to the special servicer.

“We’ve tried to work with the borrowers, and in the end they give the keys back,” D’Amico said, emphasizing that at that point in the servicing process, it is crucial to find a developer who can visualize alternative uses for the property.

D’Amico explained that like with everything in real estate, it all comes down to location. A property situated in a secondary or tertiary market may not even have the necessary foot traffic to sustain a new concept.

“We were looking at a property last week outside of Detroit where a tenant just closed its store because their lease was finished and they have another store within two miles,” he said. “[In the last few years], the retail strip has changed to the other side of town. How are you going to attract someone to a suburb of Detroit and repurpose that space?

“We’re not going to have a problem with something that’s in Manhattan because it’s got the population density,” D’Amico said. “When you get outside those major markets, it’s going to be much tougher to come up with a repurposing and convince a lender to give you enough money to pay off your existing loan.” That in mind, it leaves a redeveloper with the need to raise equity. A lender isn’t likely to provide a highly leveraged loan on a property that has failed once before.

The other gorilla in the room, loitering ominously at the end of 2016 and waiting to beat its chest, is the pending risk retention regulation. Beginning this December, CMBS issuers will need to retain a 5 percent slice of every new deal issued, or designate a B-piece buyer to assume that risk. The B-piece buyer is essentially left holding that position for five to 10 years, restricted from hedging it and only able to sell it to another B-piece buyer.

Sources have told CO that B-piece buyers are exercising this new-found responsibility at the hands of risk retention rules and kicking out any retail from CMBS that they deem questionable or nonpreferred. “We haven’t [seen this], but we’re not monitoring it very closely,” said Robert Grenda, a senior vice president at Morningstar. “That’s not to say that this isn’t happening, but we can’t confirm or deny it. It’s possible that the B-piece buyers are looking at these assets more closely than they ever have because of the bankruptcies and the headline news. I suspect it’s probably the case, but I can’t confirm it.”

That said, there may be exceptions to the rule. “There was CMBS issued very recently with Sports Authority in it,” Dittmer said. “I think the leverage is low enough that Sports Authority isn’t going to cause the loan to default right away, but I also think that when you see tenants filing for bankruptcy within a year of the CMBS deal closing, it certainly gives you some pause to think about what the quality of the tenant is.”

Even though risk retention kicks in at the end of this year, traditional CMBS lenders are already feeling the squeeze, said Barrie. “CMBS lenders feel that their loans are not being priced appropriately. This regulation has invited banks and shops to issue loans and refinancing for properties, so keep an eye on more non-traditional lenders as more loans come due.”

To bring it full circle, though, some CMBS experts think that there will still be lending potential for CMBS shops—especially in the areas where there are troubled retail assets.

“Opportunity for CMBS lenders is going to be in non-major metros going forward,” explained Mark Gilbert, the executive vice president of investment sales and acquisitions in Cushman & Wakefield’s South Florida office. “As the new regulations kick in, where lenders have to hold back a certain amount of capital for each loan, it’s going to require CMBS lenders to charge a higher interest rate. Think of the primary markets—there’s too many other lenders available to good owners so the CMBS lenders will not be as competitive. I actually think the regulation will work to the benefit of owners. It’s going to push those lenders into markets where the better lenders are not as interested in lending to them.”

The next industry wave to watch may be retail industry consolidation. “We saw the recently failed merger of Staples and Office Depot,” Dittmer said. “Had that gone through, we could have expected some closures because of the Federal Trade Commission decisions on competition. In an industry that is affected not only by slower growth but also consolidation and competition from the internet, you’re going to see risk. Consolidation is where we’re looking at some risk going forward.”

In the case of consolidation, it pays to look outside of the tenants included in CMBS collateral. “Looking at the bigger picture, we’re looking at retail tenants that are facing bankruptcy but also the retail tenants that aren’t part of CMBS collateral and could face consolidation,” said Steve Jellinek, a vice president at Morningstar. “Macy’s just closed over 30 stores, and there are plans to consolidate even more. So even in some cases where the tenant isn’t a collateral tenant, losing the anchor tenant really hurts foot traffic at the malls.”

Despite the weariness in the market, the notion that the end is nigh for brick-and-mortar retail is overstated, said analysts at Trepp, with e-commerce giants slowly opening physical stores or showrooms and retail landlords adapting to fill space left behind by big-box tenants. In terms of fundamentals, average occupancy has increased every year since 2009 and net operating income growth has been positive since 2011.

Removing the loans that are already delinquent, the outlook for retail maturities is relatively positive, despite the continued plight of the big-box retailers, said analysts at Trepp. Occupancy remains above 91 percent for retail properties tied to maturing loans, and less than 6 percent of these properties report an occupancy level below 75 percent.

Retail delinquency rates have actually declined considerably since the financial crisis, falling to levels not seen since 2010—most recently dropping to 5.05 percent in April 2016, down 304 basis points from its peak in March 2012 and 33 basis points from January’s rate of 5.38 percent.

“Every conference I go to, they talk about a softening of the real estate market in 2018, 2019,” D’Amico said. “That’s just the cycle. It’s about the right time. It won’t be like 2008 to 2010, but there will be a softening.”

He pointed to the last few years, during which Trimont had to move some of its special servicing employees into other roles like construction and asset management, just because that is where the demand has been.

“As the cycle changes and we see more defaults, we’ll be in the position to take people back into special servicing, dealing with the maturities and defaults that are coming along next year and probably just a couple of years beyond that,” he said.