Ithaca, NY, November 25, 2014 – A study from Cornell introduces a new metric that gives an early warning of distress in the hotel mortgage market. This new “canary in the coal mine” is called the relative risk premium, which is based on the changes in the loan rates charged on hotel loans as compared to loans for office buildings. The relative risk premium is explained in a report from the Cornell Center for Hospitality Research (CHR): “Relative Risk Premium: A New “Canary” for Hotel Mortgage-Market Distress,” by Jan A. deRoos, Crocker H. Liu, and Andrey D. Ukhov. All three are faculty members at the Cornell University School of Hotel Administration. The report is available from the CHR at no charge.
“We measured the change in hotel loan rates as compared to the change in the loan rates for office buildings, and we found that this relative risk premium predicts changes in the number of hotel loan delinquencies in relation to office loan delinquencies,” said Ukhov. “Lenders almost always charge more for hotel loans, because they are viewed as inherently more risky than loans for office buildings. But when that rate spread increases, we can expect a greater challenge for hotel loans.”
The analysis by deRoos, Liu, and Ukhov found that office loans are an appropriate benchmark to measure the relative health of hotel loans because office building occupancy has a relationship with the economy and with room-night demand, since business travelers are a major market for the hotel industry. The researchers observed that the rate spreads on hotel loans widen when lenders anticipate higher hotel delinquencies relative to offices and narrow during periods when relative delinquencies for hotels are expected to drop.
The researchers also found three other predictors of hotel mortgage market distress: an increase in the volatility of hotel REIT returns (risk), a negative shock to expected earnings forecasts (which signals lower expected future profitability), and an increase in unemployment. They also tested whether the relationship between delinquencies and rates ran in reverse, but they found that an increase in relative delinquencies is not useful in predicting a rise in hotel loan rates.