Relative Risk Premium: A New “Canary” for Hotel Mortgage-Market Distress
deRoos, Jan A.; Liu, Crocker; Ukhov, Andrey D.
Lenders’ evaluation of the hotel industry’s prospects can be assessed using a metric called the relative risk premium, which we introduce in this report. Similar to the canary in a coal mine, changes in the relative rates that lenders charge for hotel loans, as compared to those for office buildings, give an early warning of relative hotel loan delinquencies. This metric is based on the practice of lenders charging higher interest rates for hotel loans than on office buildings. The relative risk premium measure is defined as the interest rate on hotels minus interest rate on office buildings. Changes in this measure predict relative hotel loan delinquencies (delinquencies on hotel loans minus delinquencies on office building loans). 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. 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. We also find three other bellwethers for hotel delinquencies: an increase in the volatility of hotel REIT returns (risk), a negative shock to expected earnings forecasts (which signals lower expected future profitability), or an increase in unemployment. Interestingly, the converse situation doesn’t hold, and an increase in relative delinquencies is not useful in predicting a rise in the relative risk premium.
hotels; relative risk premium; REIT; hotel loans; commercial mortgages
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