“Unprecedented” Revenue Declines Prompt Continued Negative Watch for Hotel CMBS
On Aug. 26, Fitch Ratings maintained the Rating Watch Negative (RWN) on all Fitch-rated U.S. CMBS single-borrower hotel transactions. Below, we outline the market and asset level factors Fitch will continue to monitor in determining ratings actions that would lead to a revision of the RWN. We also outline the anticipated timelines.
There will be an unprecedented decline in hotel revenues in 2020, thus cash flow analysis utilizing 2020 numbers would be an unreliable indicator of hotel value. Fitch is forecasting that trailing twelve-month (TTM) revenue per available room (RevPAR) will not recover to its prior cycle peak in nominal terms for approximately 60 months. However, as hotels reopen and if Fitch observes a sustained recovery in revenues from their current trough, the agency anticipates it will be able to resolve the RWN status, which may likely result in moving many of the most senior bonds to Rating Outlook Negative (RON) or affirming their current rating. These actions will occur in stages as the recovery gains traction and will be on a deal-by-deal basis over the next six months. Conversely, if the downturn is prolonged and economic recovery stalls, its likely lower-rated bonds, especially those that are non-investment grade, would be downgraded and the RWN maintained on the senior bonds.
In the interim, the current uncertainty surrounding the severity and duration of the coronavirus pandemic and its impact on the hotel sector is precluding the removal of the RWN. Although downgrade risk to senior bonds remains heightened, including the ‘AAAsf’ rated classes, downgrades remain less likely due to the high level of recoverability based on the high quality of most of the properties as well as the low leverage at the higher rating categories. Two of the Fitch-rated single borrower transactions are backed by a portfolio of limited service hotels — JPMCC 2018-LAQ and MOTEL 2017-MTL6. All hotels in both transactions are open for business; limited-service hotels have to date performed better than full service hotels. Given the deals’ property diversity, geographic diversity and hotels’ current operating status, Fitch expects these will be the first transactions to have their RWNs on the most senior classes resolved. Fitch will monitor their performance over the next two to three months to ensure that their recovery is sustained.
The remaining Fitch-rated single borrower transactions are backed by just a single hotel except for MSC 2018-SUN (Shutters On The Beach and Casa Del Mar), BAMLL 2018-DSNY (The Swan and Dolphin) and DBWF 2018-GLKS (JW Marriott Grande Lakes and Ritz-Carlton Grande Lakes), which are backed by two hotels adjacent to one another. Of the 16 hotels in these deals, ten have re-opened. Fitch will monitor the performance of these now-open hotels and will attempt to get information on the level of forward bookings into 2021 if any. Resolving the RWN on these deals is expected to take longer than the portfolio transactions and the timing will differ from deal to deal based on the level of recovery of the individual properties. Eleven of these transactions have moderate leverage with senior debt ratings at ‘BBB-sf’ (or higher), which provides more stability to the ratings assuming the hotels evidence increasing RevPAR over the next several months. Four of the transactions have higher leverage with senior debt ratings down to ‘B-sf’ and are the deals most at risk of negative ratings actions given the lower rated classes.
Of those hotels in single asset transactions yet to re-open, four are in Hawaii (Grand Wailea, Four Seasons Resort Hualalai, Ritz Carlton Kapalua and Turtle Bay Resort) and one each in Arizona and Florida. Both the Arizona Biltmore in Phoenix, AZ and the Diplomat Beach Resort in Hollywood, FL closed in March; there are currently no updates regarding a reopening date for either hotel although the Biltmore website details various renovations being undertaken at the property.
Hawaii currently has a mandatory 14-day quarantine in effect for residents and visitors arriving from out of state. The quarantine was planned to be lifted, subject to coronavirus testing, but has been extended through Oct. 1 due to increases in coronavirus cases and hospitalizations.
In taking future ratings actions, in addition to monitoring hotel performance and forward bookings, Fitch will consider the inherent value in the collateral assets as evidenced by land and replacement values compared with the debt levels at each rating category and the potential for financial support from loan sponsors. For instance, many of the hotels, especially the Hawaiian hotels, are in locations that cannot be replicated, have low rated debt compared with normalized values and strong sponsors. This will encourage sponsors to support them for a period of time until any recovery provides its own support. Macroeconomic considerations, such as travel and tourism levels, will determine their ultimate fate and will be closely monitored by Fitch.
Downgrades to bonds, especially if already non-investment grade, are possible if the economic impact of the pandemic is prolonged. Fitch expects limited refinancing and liquidity for all hotels, which will prevent property valuations through sales comparisons and near-term dispositions of assets that default. Downgrades are more likely if loans default and value declines are determined to be prolonged or permanent.
As stated in Fitch’s criteria, decreases in cash flow may not warrant downgrades if the decline is not deemed sustainable, is expected to be temporary, or if the current cash flow is not reflective of recoverable value. Additionally, leverage assumptions reflect Fitch’s view on the strength and stability of the submarket, the primary market and the property’s location and positioning within the market.
