An ultra-safe corner of the commercial real estate debt market is seeing losses as the sector struggles

• Commercial real estate pain is sparking defaults in bonds backed by loans on high-quality properties.
• Single-asset, single-borrower CMBS are typically seen as safe havens by bond investors. 
• The recent stress is a sign of deep pain in the sector as values wobble and loans reach maturity. 

Pain in commercial real estate has spread to an even ultra-safe corner of the commercial mortgage market, with losses being seen for bonds backed by debt on the highest quality properties.

Defaults on single-asset, single-borrower bonds — which are commercial mortgage-backed securities tied to a single, high-quality property —have skyrocketed over the past few years, according to Commercial Real Estate Finance Council data cited by the Wall Street Journal.

The percentage of these bonds that were in or approaching default has climbed to 8.7% so far in 2024 — about three times the default rate recorded two years ago, the trade group said.

That may come as a surprise to some investors, as single asset CMBS bonds are typically regarded as super-safe in the real estate world. Many are rated triple-A by the top rating agencies, with safety often seen on par with US Treasury bonds.

The debt defaults have already sparked losses for some investors. Debt holders of a high-profile AAA-rated building in midtown Manhattan lost more than 25% of their original investment after selling the bonds at a hefty discount — the first loss of its kind recorded since the Great Financial Crisis, Bloomberg reported.

Defaults could also continue to rise as a wave of debt comes due in the commercial real estate sector. Of the $260 billion of single-asset, single-borrower debt outstanding, $35 billion is approaching maturity this year, followed by $154 billion of maturing debt over the next three years, per Philadelphia Fed data.

The wall of maturing debt hints at a murky future for commercial real estate, where investors have been watching for signs of trouble since the pandemic. Work-from-home trends have pushed office vacancy rates to the highest level recorded, Moody's data shows.

Interest rates, meanwhile, look poised to stay higher for longer, potentially sparking more distress as $1 trillion of debt in the overall commercial real estate sector approaches maturity by the end of this year.

The cocktail of high rates and anemic demand could result in more defaults and forced selling by property owners at heavy discounts, some real estate experts say, with office buildings being a particular sore spot.

About $52 billion, or third of all office loans packaged into bonds, was in or approaching default in March, according to Kroll Bond Rating Agency data cited by Bloomberg.

Commercial real estate foreclosures broadly spiked 117% year-over-year in the first quarter, according to data from property analytics firm ATTOM.