Allied Properties Downgraded to Junk Status by Moody's Amid High Debt and Weakening Occupancy

Key Takeaway

• Moody’s downgraded Allied Properties to junk status due to high debt and weakening occupancy, with a C$500 million property markdown.
• The national office market faces significant discounts; Related Companies sold a Hell’s Kitchen property at a 67% discount from its 2018 price.
• Pimco warns of more regional bank failures in the US due to high concentrations of troubled commercial real estate loans.

Moody’s Downgrades Allied Properties

Moody’s Ratings downgraded Allied Properties Real Estate to junk status on Tuesday, citing the Canadian office landlord’s high debt levels and weakening occupancy rates. The bond grader cut the company’s senior unsecured rating to Ba1, the highest junk rating, from Baa3, the lowest investment-grade level. The outlook remains negative. Allied Properties, a real estate investment trust (REIT) specializing in converting old downtown industrial and warehouse spaces into offices, marked down the value of its properties by nearly C$500 million in the last quarter of 2023. This markdown was attributed to the impact of remote work and high interest rates on commercial property.

“Although the REIT’s properties have largely outperformed the broader markets over the last few years, the difficult leasing environment has weakened its portfolio occupancy and reduced rent growth,” said Ranjini Venkatesan, Moody’s senior credit officer, in a statement on Tuesday.

Office Market Discounts

The national office market is experiencing significant discounts, with even prominent landlords feeling the impact. An affiliate of Related Companies is selling a property at 321 West 44th Street in Hell’s Kitchen for below $50 million, a roughly 67 percent discount from its last sale price of $153 million in 2018. The transaction was a short sale, meaning Related and its lenders agreed to sell the property for less than what was outstanding on its mortgage. The balance on the loan is above $100 million. The 10-story, 220,000-square-foot office building counts Battery Studios and AKA among its tenants.

The sale, arranged by a team from CBRE, is indicative of how office values have dropped precipitously in recent years due to high interest rates and the pandemic. As maturities loom and costs surge, owners are opting to cut their losses at a discount rather than face a distress scenario. Namdar Realty Group and Empire Capital Holdings, the buyers, have a history of joint ventures in Manhattan’s office market, including acquisitions of 529 Fifth Avenue and 830 Third Avenue.

Pimco Warns of Regional Bank Failures

Pacific Investment Management Co. (Pimco) expects more regional bank failures in the US due to a “very high” concentration of troubled commercial real estate (CRE) loans on their books. “The real wave of distress is just starting” for lenders to everything from malls to offices, said John Murray, Pimco’s head of global private commercial real estate team. Uncertainty over when the Federal Reserve may cut interest rates has exacerbated challenges faced by the CRE sector, where high borrowing costs have hammered valuations and triggered defaults.

“As stressed loans grow due to maturities, however, we expect that banks will start selling these more challenged loans to reduce their troubled loan exposures,” Murray added. His team has been acquiring CRE loans offloaded by some large US banks for the past 18 months. The turmoil has been particularly felt among regional banks, which boosted their CRE exposure that in many cases is now worth only a fraction of their value at their peak.

Earlier this year, New York Community Bancorp slashed its dividend and stockpiled more cash for potentially bad loans, sending shares into a tailspin. US Bancorp increased its provisions for credit losses in the first quarter, and shares of Axos Financial Inc. slumped after a short seller highlighted the bank’s property loan problems. Regional banks were also the only lenders that didn’t demand extra down payments from commercial-property borrowers in recent years, highlighting their vulnerability to falling values.

Street Views

• Ranjini Venkatesan, Moody’s (Bearish on Allied Properties Real Estate):

  "Although the REIT’s properties have largely outperformed the broader markets over last few years, the difficult leasing environment has weakened its portfolio occupancy and reduced rent growth."