While the debate lingers as to how the bulging CMBS calendar will be received by the market, and subsequently how spreads will react, the next week or so looks manageable. There are four, maybe five deals in the works currently, but what makes the supply palatable is its miscellany.
After a two-week run of three marquee conduits, a small seasoned offering, and the recent November 13th completion of the huge mall-backed GGP transaction, the number of conduit deals moderates. A $1 billion offering for GE Capital via Bear Stearns and Deutsche Bank is the most likely near-term conduit - there is also talk of a Lehman/UBS deal making the rounds - while a pair of $1 billion large-loan floaters are on tap, one from Morgan Stanley and the other from Deutsche Bank.
Rounding out the lot, JPMorgan, after bringing the $113 million seasoned loan deal on October 29, is out with a mall-backed issue for $172 million. The Kings Plaza Center deal is worth watching, not only because of its 100% retail component, but because it resides in Brooklyn, N.Y. That would not otherwise have much impact outside of diversification concerns except that New York has been, unfortunately, overexposed in the news.
According to Salomon Smith Barney, new issues should continue to see strong demand because of the lack of lower/par-priced paper in the market. So far indications for the 10-year class on upcoming deals remain on top of recent pricings, implying that the market still has room for more issuance.
It's worth mentioning as well that the Street is onto the credit tiering going on in mezzanine classes. At least two dealers made special note of the CDO-demand factor in triple-B classes and the credit ratings attached to those issues. Looking at recent transactions, the BBB- class of the BoA/FU conduit - rated by Standard & Poor's/Fitch - priced on November 9 and printed 20 basis points back of the CSFB-CK1 transaction that was completed on November 1, which was rated by S&P/Moody's. It would appear that as long as CDO demand remains crisp, so will the concession for non-Moody's ratings.
With the spread markets recovering from Sept. 11th events, there was a review of the benchmarks used by the CMBS market to validate or reaffirm their effectiveness. Morgan Stanley's Howard Esaki recently revisited the Treasury benchmark, noting that it has had lower volatility than swaps of late. Since 1998, hedging in swaps for CMBS traders became common as the correlation between the two markets increased, but all the while the Treasury curve has been used as a credit barometer.
As of November 2nd, triple-A spreads to swaps widened 20 basis points since Sept. 11, but are nearly unchanged to the 10-year Treasury. At the same time volatility has been in a five basis point range versus Treasurys, but 20 basis points to swaps. This would suggest increased risk to swaps but stability to the risk-free rate. Given the declines in the overall economy and their effect on the housing sector, "this is further testament to the conservatism of triple-A CMBS ratings."
While acknowledging the relationship to swaps, Salomon Smith Barney discovered that over the past year, the correlation has been strained, and did a study of swaps, agency, implied MBS, and realized MBS volatility spreads to the commercial mortgage sector to test that relationship.
In the end, regression analysis showed that agencies and swaps are good at predicting CMBS spreads, while MBS spreads are not. Based on the results, ten-year classes are three basis points cheap to swaps and five to six basis points cheap to agencies, suggesting that the CMBS sector "overreacted to the Sept. 11 tragedy and should have a tightening bias once November and December fixed-rate issuance supply has cleared the market."