Pan-European deals are expected to be a major growth driver for CMBS volumes this year. However, critics argue that there is still much in the way of developing a true Pan-European market that looks across more than the handful of jurisdictions included in the deals seen to date.
According to Moody's Investors Service, in 2006, CMBS and multifamily issuance in Europe, the Middle East and Africa (EMEA) increased by 60.3%, compared to 2005. The rating agency expects the market to grow further this year, reaching approximately 85 billion ($114 billion) by year-end 2007. However, the agency noted that further rises in interest rates both in the U.K. and in the euro zone could have a dampening effect on CMBS and multifamily issuance growth potential and said a solution to this effect could be adding CMBS from other countries, which has not been that uncommon for the handful of jurisdictions that have thus far clicked together. Looking beyond the French, German and Netherland borders presents an altogether different heap of barriers that are slowly being addressed.
Origination teams, in Bulgaria in particular, are thought to be working hard on CMBS in Central and Eastern Europe. "In 2007 we expect the size of issuance to increase and we also anticipate seeing more novel jurisdictions come from Central Eastern European originators in, for example, Hungary, Poland, Belarus, Estonia and Bulgaria," said Christopher Walsh, a partner in the securitization and structured debt group at Clifford Chance. "In the deals, they like to add one or two of these types of loans, or the odd esoteric loans, from these countries, and, in theory, all the legal structures and technology are in place for these types of deals."
Even with growth in Pan-European jurisdictions deals that three years ago would have been considered highly complex, a high barrier of execution costs remains. The modification in structuring that allows originators to come to market very quickly will be the key that unlocks the true potential of this structure. The market has yet to see a deal that encompasses a larger number of jurisdictions that was envisioned for this asset class.
Ronan Fox, managing director, Standard & Poor's sees a bleak future for cash Pan-European CMBS. The rate of true-sale Pan-European transactions is decreasing in some areas because of these aforementioned locally based hurdles, according to Fox. "A genuine five or six nation CMBS is really quite a complex beast and it has not got any easier; if anything, the challenges have increased," he added.
CMBS true sale deals still tend to concentrate more on one or two countries and less on five, six or seven countries. Fox believes that a genuine true-sale Pan-European CMBS on this level will remain a rarity unless the process is simplified. "The legal environment and credit analysis of these markets can take a considerable period of time so we do not expect to see many transactions in 2007 coming from these new markets although Central Europe, Russia, and the Middle East will see some limited activity," S&P reported.
The European Union also recently conducted a study group on the future of Pan-European CMBS and concluded that jurisdictions still need further commoditization in order to make this structure function on a grander scale but didn't expect that the continent would readily arrive at a standardized regulatory environment in the near term.
With no "one-size fits all" structural solution readily applied across all jurisdictions, several legal considerations arise when trying to package deals under one umbrella. A CMBS deal across Germany, the Netherlands, Sweden, and France is one thing, but adding loans from Switzerland - where the law requires part of the structure to be unsecured, as well as a host of tax issues - or Italy where the law requires the loans/receivables to be first sold to an Italian special purpose company because of insurance requirements, brings in more complicated and costly considerations for originators.
One seemingly quick fix would be to supplement the holes in Continental European discrepancies by adding some concentrated risk from current large scale building works from the Middle Eastern or African regions such as Dubai or South Africa, but Clifford's Walsh believes it's unlikely dealers will look past the Continent. "There is enough debt on the continent to make Pan-European CMBS the market norm," he said. "So I don't foresee global CMBS deals (that would include loans from the Middle East and Africa, U.S. or the Far East) because you don't benefit as much in the cost-benefit analysis."
Duplicating deals,
erasing borders
Nevertheless, originators continue to look at a multitude of jurisdictions and are beginning to see structures that stick together better. Fox said a good example of where the structure worked well was in the Lehman Brothers, Windermere X transaction where the assets securitized were located in France, Germany, the Netherlands, Italy and Switzerland. "It's a good example of a deal that combines a number of different structuring techniques to successfully allow a Pan-European deal to take," he said
Ifigenia Palimeri, team managing director at Moody's, is positive about the future of Pan-European CMBS. According to Palimeri, the number of Pan-European deals is increasing so that one rarely sees, for example, pure French or pure German deals, as many conduit programs have established operations across the continent that will continue to source many more Pan-European CMBS deals.
"There has been significant growth in the European CMBS market in the last two years, and the investor base is increasing," Palimeri said, adding that locally based regulatory holdups will wash out in due time. "The execution time for Pan-European deals has decreased as originators are now able to duplicate any previously similarly structured deals."
More investors, mixed with more cost-effective turnaround, not to mention a diversity of property types and locations are all favorable to ratings as well, Palimeri added. "Pan European CMBS is now one of the main types of CMBS transactions, and there are diversity advantages from a ratings standpoint," she said. "If a deal has collateral in five different countries and five different property types, we give credit for that diversification, as opposed to a deal secured by one property type in one location."
Synthetics offer
diversification
The push behind this growth of Pan-European CMBS has less to do with new structures and innovations and more with a series of banks seeing opportunities in this market, according to market sources. "Banks see CMBS as a way of financing their lending expansion or managing their balance sheet and risk exposures," Fox said.
European CMBS conduits are increasingly moving away from U.K. assets in favor of the better priced euro. "For euro-denominated transactions, there is a wider investment market than the Great Britain pound, which still maintains a strong sterling dominance," Fox said. "This is leading to an increased demand for the CMBS [which] parallels the increase in lending. A growth in non-traditional investors, for instance hedge fund managers, is beginning to occur." Pan-European transactions will benefit from this greater investor diversification. The growing attention from abroad is bound to be a good thing, said a market source, especially from U.S. hedge funds.
If there were to be a liberalization of Pan-European CMBS codes, which most agree is extremely unlikely in the foreseeable future, there will be no limit to the amount of investors flooding to Europe to get in on the Pan-European CMBS "profit nirvana," Fox said. For now, banks that are more concerned with risk management can turn to synthetic Pan-European structures, which achieve that diversification benefit without the legal hassles and significant costs of a true sale transaction, he said.
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