‘The Big Short’ repeats: bears lining up on falling real estate bonds

Covid-19 has increased the delinquency of mortgage loans

Déjà vu’ on Wall Street. With the Covid-19, the American parquet revives ‘The Big Short’, the great bet against the real estate market that recounts the famous book by Michael Lewis and was later taken to the cinema, with Christian Bale and Brad Pitt as protagonists. History repeats itself, although this time several bear funds are filling their pockets with the fall in real estate bonds.

These funds had been short since March 2017, but they did not go for subprime mortgages, as investor Michael Burry did in 2005, but for loans granted to shopping centers. His expectation was that the growth of e-commerce would cause a wave of defaults by retail. Finally, with the coronavirus pandemic, their profits have skyrocketed earlier than expected.

It is necessary to point out that, in the United States, it is normal for banks not to keep loans on their balance sheets, but to sell them and list them on the market in the form of bonds. On Wall Street there are specialized indices that collect the trading of these bonds, on which investors can bet up or down. An example is the CMBX 6 , a derivatives index to bet on the future of retail trade in the country.

The CMBX 6 is linked to the debt issued in 2012 by shopping centers that are now having difficulty paying back the money. Some of them are managed by JC Penney, a chain of stores that has declared bankruptcy. Faced with events like this, expectations of default in the payment of mortgage loans increase, causing falls in the index of more than 30% since the beginning of 2020 and thus feeding the accounts of the bear funds.

But not only will shopping center bonds lose much of their value, but Covid is shaking the entire American real estate sector. Especially hotels, which have been closed throughout the pandemic and have obtained practically no income, increasing the risk of default on their debt . Also in offices, where the change in the trend towards teleworking is causing a flight of investment and a sharp drop in billing in coworking spaces.

Non-Payment Will Continue to Increase

Morgan Stanley warns that a quarter of all commercial mortgage-backed securities in the US could be on the verge of default. In fact, delinquencies rose sharply in April, with 66 loans totaling $ 1 billion, putting enormous downward pressure on nearly all asset classes tied to US real estate.

In total, 324 loans with a total balance of 4.8 billion are currently in default in the North American country, a historical figure. And the forecast is that in May it will increase another 5%. It should be clarified that we are talking about bad credit when it cannot be paid for two consecutive months. In the event that it is only one month, it is classified as “late but within the grace period.”

From Fitch they consider that this complicated situation is going to get even worse. Based on his own data, he claims that 26% of outstanding mortgage debt has inquired about defaulting in recent weeks, which would be an unprecedented increase. Similar figures were not reached even in the financial crisis of 2008, when delinquencies and foreclosures on debt peaked at 9% in July 2011.

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