Problems in the European markets, stock market gyrations and fears that economic growth may be slowing have all contributed to both spread widening as well as a steepening of the credit curve in the commercial mortgage-backed securities market, according to Annaly Capital Management's third quarter 2011 market commentary.
Standard & Poor's decision to withdraw its rating on CMBS deals on July 27 following an advance notice of a change in their rating criteria contributed to spreads widening on S&P rated transactions on fears of potential downgrades arising from the new rating criteria.
"These fears proved to be unfounded," explained Annaly analysts in the report. "The issue ultimately narrowed to conflicts between debt service coverage methodology for loans of new issue CMBS versus loans in CMBS under surveillance, and there had been no marked deterioration in the credit performance of the previously rated transactions."
However macroeconomic deterioration continued to pressure spreads. According to the report the 3Q saw a pushback by investors to the triple-A bonds being marketed with credit support of less than 15%.
Goldman and Citigroup for instance were able to rework their aborted CMBS transaction from July and issued triple-A securities that were public with credit support of 30% marking a return to the super-senior format.
Since then, all conduit transactions have featured a super senior class structure issued in a public securities format.
"The Goldman/Citi/S&P confluence of events highlighted the inherent conflict that CMBS issuers encounter as they attempt to become viable again," explained analysts in the report. "Namely, issuers staff up to originate a significant amount of loans quickly to create a critical mass to securitize.
" Given that the pricing of mortgage coupons is relatively inelastic, a CMBS issuer cannot charge a borrower for his risk of warehousing loans and ultimately selling CMBS to investors. Their only choice is to create larger pools as quickly as possible and manage the credit enhancement levels or to better manage their warehousing risk. Investors made their concerns known, and their pushback happened to coincide with the S&P announcement."