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THIS WEEK'S 
REPORT:

The BAN Report: The 300MM Beantown Resi Portfolio / Inflation Remains Stubborn / CRTs / Sun Goes Down on EVs / Delaware Exodus? / Arbor's Multi-Family Stress-2/15/24

 

The $300MM Beantown Resi Portfolio

Clark Street Capital’s Accelerated Bank Asset Network (“Accelerated BAN”) proudly presents: “The $300MM Beantown Resi Portfolio.” This exclusively offered portfolio is offered for sale by one institution (“Seller”). Highlights include:

  • Bank seller looking for a partner to acquire approximately $10-15MM / month over the next 24 months

  • Initial portfolio of $28,138,627 comprised of 35 high-quality performing residential mortgages

  • Experienced origination team throughout Greater Boston

  • Initial portfolio has an average coupon of 6.77% and 94% are in Greater Boston

  • $1.5 billion existing servicing portfolio with a historical loss rate of 0.21%

  • Servicing-released or servicing-retained (preferred)

  • All purchase transactions with an average FICO of 769, DTI of 32%, and LTV of 70%

  • Minimum FICO of 700, maximum DTI of 43%, and maximum LTV of 80%

  • Offering 30-year fixed, and 3/1, 5/1, 7/1/, 10/1, and 15/1 ARMs

Loan Sale Announcement Thursday, February 15, 2024

Due Diligence Materials Available Monday, February 19, 2024

Indicative Bids Due Thursday, March 7, 2024

Closing Date Thursday, March 21, 2024

 

We are not requiring an NDA on this deal at this point. We will need your contact info to provide access to the due diligence materials. You can access the form here. Please email jwinick@clarkstreetcapital.com with any questions.

Inflation Remains Stubborn

For months, long-term interest rates have whipsawed back-and-forth with each data point on inflation. Earlier this week, the CPI for January showed that inflation had risen more than expected.

Inflation rose more than expected in January as stubbornly high shelter prices weighed on consumers, the Labor Department reported Tuesday.

The consumer price index, a broad-based measure of the prices shoppers face for goods and services across the economy, increased 0.3% for the month, the Bureau of Labor Statistics reported. On a 12-month basis, that came out to 3.1%, down from 3.4% in December.

Economists surveyed by Dow Jones had been looking for a monthly increase of 0.2% and an annual gain of 2.9%.

 

Excluding volatile food and energy prices, the so-called core CPI accelerated 0.4% in January and was up 3.9% from a year ago, unchanged from December. The forecast had been for 0.3% and 3.7%, respectively.

Shelter prices, which comprise about one-third of the CPI weighting, accounted for much of the rise. The index for that category climbed 0.6% on the month, contributing more than two-thirds of the headline increase, the BLS said. On a 12-month basis, shelter rose 6%.

 

Food prices moved higher as well, up 0.4% on the month. Energy helped offset some of the increase, down 0.9% due largely to a 3.3% slide in gasoline prices.

 

Stock market futures fell sharply following the release. Futures tied to the Dow Jones Industrial Average were off more than 250 points and Treasury yields surged higher.

 

Even with the rise in prices, inflation-adjusted hourly earnings increased 0.3% for the month. However, adjusted for the decline in the average workweek, real weekly earnings fell 0.3%. Real average hourly earnings rose 1.4% from a year ago.

 

“Inflation is generally moving in the right direction,” said Lisa Sturtevant, chief economist at Bright MLS. “But it’s important to remember that a lower inflation rate does not mean that prices of most things are falling — rather, it simply means that prices are rising more slowly. Consumers are still feeling the pinch of higher prices for the things they buy most often.”

 

This ride isn’t over. Markets will continue to overreact to data on inflation and the economy. Weak retail sales for January, for example, could mean prices may come down.

 

Consumer spending fell sharply in January, presenting a potential early danger sign for the economy, the Commerce Department reported Thursday.

 

Advance retail sales declined 0.8% for the month following a downwardly revised 0.4% gain in December, according to the Census Bureau. A decrease had been expected: Economists surveyed by Dow Jones were looking for a drop of 0.3%, in part to make up for seasonal distortions that probably boosted December’s number.

 

However, the pullback was considerably more than anticipated. Even excluding autos, sales dropped 0.6%, well below the estimate for a 0.2% gain.

 

It’s our view that the Fed will lean towards keeping rates high unless either 1) inflation is clearly under control or 2) the economy is showing significant weakness.   Markets will continue to predict the future as they should, but the data is often contradictory.

 

CRTs

 

In the past few weeks, there’s been a lot of chatter about Credit Risk Transfers. According to Freddie Mac, which claims they pioneered the product in 2013, “credit risk transfer (CRT) programs structure mortgage credit risk into securities and (re)insurance offerings, transferring credit risk exposure from U.S taxpayers to private capital.”  Reuters had a good update on the renewed popularity of the product earlier this month.

The market for these products, already well established in Europe, has drawn more attention from U.S. players since the regional banking failures in March prompted lenders to look for ways to build capital cushions to appease regulators.

 

But structures currently in use come with constraints. U.S. regulatory requirements set by the Federal Reserve restrict participation from insurance companies in these deals. The types of loans, mostly auto and mortgages, also limits the pool of potential investors, five investors and lawyers involved in credit risk transfer deals said.

Now, some of those parties are pitching U.S. lenders with different variations of credit risk transfer products that could address those issues.

Since late September, seven U.S. banks, including JPMorgan Chase (JPM.N), opens new tab and US Bancorp (USB.N), opens new tab, have trimmed the risk of losses on mortgage, corporate and automobile loans using risk transfers - many for the first time, according to bank filings, term sheets, investor estimates and regulatory notices.

The trades, some of which price at double-digit yields, have attracted investors such as Ares (ARES.N), opens new tab, Blackstone (BX.N), opens new tab, and PGGM.

The opening up of the U.S. market has boosted global volumes.

Issuing banks in the private sector sold off an estimated $25 billion of the risk of losses on loans totaling $300 billion globally in 2023, compared with $20 billion sold on $250 billion of loans in the previous year, according to Olivier Renault, head of risk sharing strategy at Pemberton Asset Management, which invests in non-investment grade debt on behalf of global institutional investors.

Official data on these trades is not public, but U.S banks are estimated to have placed around $7 billion of the $25 billion, on a portfolio of loans totaling around $72 billion, according to company filings, bank letters seeking regulatory approval and one large asset manager.

These deals have drawn some concern, including from U.S. lawmakers. While they can give banks additional capacity to lend and reallocate capital toward other growth initiatives and shareholder returns, they also spread the risk into the lightly-regulated shadow banking area.

I reviewed a pitch from an originator in this space. They listed six representative transactions, and 5 of the six were 1st loss risks on pools of residential mortgages, which they called a “Risk Transfer Synthetic Securitization.”  

It does seem odd though that banks would de-risk some of the safer assets in their portfolio (i.e., residential mortgages), instead of say office loans. For riskier asset pools, the cost for these programs appears to be prohibitively expensive. Moreover, these transactions are generally not sales under GAAP.

 

Sun Goes Down on EVs

Hertz dumped 25K of its Tesla’s to backlogs of EVs during the cold last month in Chicago, the enthusiasm for EVs appears to be waning.   

As recently as a year ago, automakers were struggling to meet the hot demand for electric vehicles. In a span of months, though, the dynamic flipped, leaving them hitting the brakes on what for many had been an all-out push toward an electric transformation. 

A confluence of factors had led many auto executives to see the potential for a dramatic societal shift to electric cars: government regulations, corporate climate goals, the rise of Chinese EV makers, and Tesla’s stock valuation, which, at roughly $600 billion, still towers over the legacy car companies.

But the push overlooked an important constituency: the consumer.

Last summer, dealers began warning of unsold electric vehicles clogging their lots. Ford, General Motors, Volkswagen, and others shifted from frenetic spending on EVs to delaying or downsizing some projects. Dealers who had been begging automakers to ship more EVs faster are now turning them down.

Even Tesla Chief Executive Elon Musk warned of “notably lower” growth in vehicle deliveries for the company in 2024. 

“This has been a seismic change in the last six months of last year that will rapidly sort out winners and losers in our industry,” said Ford Chief Executive Jim Farley on an earnings call in early February. 

EV sales continue to grow, and auto executives say they remain committed to the technology. But many are recalibrating their plans.

Ford has pulled back on EV investment and could delay some vehicle launches, while increasing production of hybrids, which run on both gasoline and electricity. It lost a staggering $4.7 billion last year on its battery-powered car business and projects an even bigger loss this year, in the range of $5 billion to $5.5 billion.

Some auto executives acknowledge they got ahead of the market with overzealous demand projections. Pandemic-era supply-chain shocks and a resulting car shortage created long waiting lists and early buzz for EVs, making the industry overly optimistic. 

Only later, as a barrage of new EVs hit the market, did executives realize that car buyers were more discerning than they expected. Many were hesitant to pay a premium for a vehicle that came with compromises.

Farley and other industry CEOs are still confident that EVs will eventually take off, albeit at a slower pace than initially envisioned. But for now, the massive miscalculation has left the industry in a bind, facing a potential glut of EVs and half-empty factories while still having to meet stricter environmental regulations globally. 

Now that eco-conscious early adopters have already bought their electrical vehicles, the industry has to convince broader consumers to take the plunge.  Goals of phasing out nearly all gas-engine vehicles by 2035 for GM appear to be pipe dreams at this point. All-electric ranges are not long enough, charging times take too long, and there are not enough charging stations. Even Tesla owners like myself avoid EVs when renting cars (“The Manager’s Special”).

Delaware Exodus?

 

This week, Elon Musk moved his SpaceX registration from Delaware to Texas, in retaliation towards an unfavorable ruling against Tesla.

SpaceX CEO Elon Musk announced Wednesday night that the company converted its registration state from Delaware to Texas after a court in Delaware struck down his massive compensation package at Tesla, another one of the billionaire’s ventures.

"SpaceX has moved its state of incorporation from Delaware to Texas! If your company is still incorporated in Delaware, I recommend moving to another state as soon as possible," Musk wrote in a post on X, formerly Twitter. 

SpaceX’s move comes a little more than two weeks after a Delaware judge voided Musk’s $56 billion compensation package at Tesla, the EV-maker Musk founded and serves as CEO of. Musk’s Tesla compensation package was by far the largest ever provided to an executive and played a major role in making him one of the world’s wealthiest individuals.

The ruling stemmed from a lawsuit brought by a shareholder who argued Musk’s close ties with directors who negotiated the bumper package weren’t properly disclosed ahead of a stockholder vote to approve the deal. 

He then tweeted: “SpaceX has moved its state of incorporation from Delaware to Texas!

 

If your company is still incorporated in Delaware, I recommend moving to another state as soon as possible.”

With Elon Musk influence, will other’s file suit? I asked Russell Shapiro, a corporate attorney at Levenfeld Pearlstein, LLC, for his thoughts.   Russell said, “Delaware is so deep and robust and, a few clients have elected to move to Nevada, but not many.  It’s a hard sell for investors to be out of Delaware. It’s just so defined, the judges are so good.”

 

Arbor’s Multi-Family Stress

Arbor Realty Trust, a major lender to apartment buyers in the Southeast, is experiencing a spike in delinquency rates due to floating-rate debt.

Borrowers of a quarter of Arbor’s securitized debt were late on debt payments as of mid-January, according to the data company CRED iQ, which analyzed figures from the bonds’ trustee. Borrowers of around 9% of the debt were 30 or more days late. 

Most borrowers who were late on January payments eventually paid, an Arbor spokesman said, and he said 5.8% of Arbor’s securitized debt payments are still not current on January payments. 

Often, borrowers are able to catch up on payments or cut deals with lenders to lower interest payments for a while. Still, the large number of late payments in January shows the strain on borrowers and the growing risk of losses for lenders.

As of January 2023, borrowers of 0.4% of Arbor’s mortgage bonds, so-called collateralized loan obligations, were delinquent 30 days or more, according to CRED iQ. That share was up more than 20-fold in January of this year as higher rates squeezed investors. 

The spokesman said the share of Arbor loans that were delinquent on January payments and delinquent for 30 days or longer was 4.6% as of Feb. 13. 

Arbor mortgages backing apartment properties in Columbia, S.C., Gainesville, Fla., and San Antonio are among those that went delinquent over the past year. Arbor’s spokesman declined to address specific loans, but said “collections and performance have continued to improve.”

The company sits at the center of what a growing number of analysts say is one of commercial real estate’s biggest trouble spots: floating-rate apartment loans. 

“Multifamily could be the next shoe to drop,” said Jade Rahmani, a real-estate stock analyst at KBW. 

Investors raced to cash in on surging population and economic growth in Sunbelt cities, buying aging apartment buildings at high prices with floating-rate loans that were cheap at the time. Many of these loans were issued by nonbank lenders like Arbor and repackaged into bonds called collateralized loan obligations, or CLOs. Then, interest rates surged and rent growth slowed. 

Now, many borrowers are struggling to pay their debt or renew the hedges they purchased to protect against rising interest rates. Many of these hedges are now expiring. Renewing them at much higher rates is tightening the financial pressure on Arbor’s clients.

While we’ve talked about some of the fundamental issues in multi-family, it’s nearly impossible to buy a building at a low single-digit cap rate with 75-80% leverage and service the debt at high single-digit rates. I asked Ben Kadish, President of Maverick Commercial Mortgage, and he noted:

 

“A number of Wall Street lenders were offering bridge or bridge to Agency loans at 75-80% LTV at 4% interest rates (SOFR +4%). With those rates now at 9.25%, every one of those deals are underwater from a cash flow and leverage standpoint and are coming due.   They were largely 3 year loans.    They can’t pay their full interest and they’ve defaulted on their covenants.    The next lenders will now underwrite new loans at up to 75% LTV. The new loans may be short on proceeds by 15-30% of the old loan amount.”

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