After a prolonged absence starting in October of last year, hotel-backed deals are making a comeback in the U.S. Commercial Mortgage-Backed Securities (CMBS) primary market. Despite this uptick, investors caution that not all issuers will benefit equally, as a notable disparity between different types of hotels is becoming evident. Broadly put, high-end destination resorts are increasingly favored by CMBS investors, while generically branded, corporate-oriented hotels may still face challenges in securing financing. What has caused this divide? GlobalCapital turned to Axonic Capital for insight.
“As the Fed began raising rates, capital markets froze up for hotel financing,” says Tyler Kimball, director at Axonic Capital. “However, in the last couple of months, we have seen a return to the securitization market with some large, destination, resort-type hotels executed in both SASB and conduit.”
According to Kimball, in the past few months, most of the deal flow he has been handling has been focused on hotels, comprising around three-quarters of his recent work. He tells the publication that there are also several destination hotel deals in the pipeline, including two from Brookfield, which are anticipated to be priced in the near future.
However, not all hotels are going to benefit from the recovery of leisure travel. While big group hotels, which primarily service business travelers, such as Marriot and Hilton, were once a favorite asset among institutional investors, they are still struggling to perform, with some even feeling strong pressure to refinance.
“For big group and business hotels, it’s not really occupancy that’s lagging, but the rates,” explains Kimball. “These big hotels are back to historical occupancy levels at 65% to 75% on an annual, but their average daily rates might be 10% below the pre-pandemic or budgeted number, so it’s dragging their net cash flow.”
Further, the aggressive interest rate campaign by the Federal Reserve has caused the price of interest rate caps, a hedging tool against rising interest rates required on floating-rate loans, to also become increasingly more expensive. This hike has squeezed business hotels that were already struggling to generate significant cash flows.
“If you take a floating rate loan out, that’s an all-in coupon of 9-10%, which means you need at least a low double-digit debt yield to cover the debt service,” says Kimball. “This is hard for business and group-focused hotels given they are still recovering. That’s why we are seeing this big difference in transaction volume.”