Commercial real estate (CRE) remains a large exposure for US life insurers, which hold over $900 billion in CRE, or roughly 17% of total invested assets, mostly in commercial mortgage loans (CMLs) and commercial mortgage backed securities (CMBS), however in the past few years, weak spots have begun to emerge across the sector, a new report from Moody’s says.
According to the agency, rising refinancing costs, notably within the office segment, have pushed property valuations lower, ultimately weakening loan-to-value (LTV) metrics and increasing insurers’ capital charges.
It’s important to note that US life insurers hold more than $600 billion of mortgage loans, and within the last few years, insurers have reduced their exposure to the office segment as the weight of work-from-home on occupancy and the large drops in valuation have made refinancing more difficult.
Looking back at 2023, Moody’s notes that weakness in commercial real estate, especially in the office subsector, drove insurers to reevaluate exposures.
In fact, from July 2022 – Q1 2024, multifamily properties had an 18% value decline as a result of rising rates, while office peaked at 24%.
At the same time, Moody’s notes that deterioration in mortgage loan quality continues to lower valuations while increasing loan-to-value ratios, and loan delinquencies.
The agency explained that it expects to see insurers work with borrowers to address maturities in the next 12-18 months and to use the benefit of time in their favor, “as long as immediate liquidity needs remain stable.”
Moving forward, the agency noted how US life insurers’ CMBS holdings are dominated by high-quality conduit deals, which tend to align well with insurers’ long-term liabilities.
However, whilst one third of mortgage loan investments is allocated to large loan or single asset/single borrower mortgages (LL/SASB) these usually tend to have higher credit enhancement to compensate for the property and borrower concentration, Moody’s added.
Furthermore, the agency explains that exposure to other commercial real estate investments is minimal.
“US life insurers have very limited holdings in REITs, and even a smaller exposure of REITs tied to office. The higher for longer interest rates environment has increased funding costs, leading to less liquid real estate purchase/sale transaction markets and lower property valuations,” Moody’s said.
Adding: “Although a decline in interest rates this year would increase transaction activity, asset values could decline further if a softening economy were to dampen real estate demand. A slowing economy will put more pressure on NOI growth over the next 12-18 months, while operating expenses, including insurance, payroll, and materials costs, will remain high, which will weigh on margins as demand slows.”
