In its third quarter update on the CMBS market, Moody’s Investors Service said that the sector is still relatively unscathed through its cyclical downturn compared to other fixed-income markets.

In a press release Managing Director Tad Philipp said that based on the rating agency’s MOST(TM) surveillance scoring system, the vast majority of CMBS ratings remain stable. He added that 75% or more of these ratings are expected to remain unchanged during the coming year. "We continue to keep a watchful eye on the recovery in the still-fragile hotel sector," said Philipp. He also stated that the office sector, where the national vacancy rate has risen to roughly 17%, has begun to impact CMBS performance.

In 3Q03, Moody’s took rating actions on 228 CMBS tranches (which included affirmations and confirmations), up from 184 rating actions in 2Q03. The ratio of 1.42 downgrades per upgrade was largely unchanged from the 1.44 downgrade-to-upgrade ratio of the second quarter of 2003. Excluding credit tenant leases, this ratio was 1.19 to 1.

Philipp said that the upgrade/downgrade ratio varied considerably in terms of deal type. Conduits were the top performing sector, with 17 upgrades to 14 downgrades. Floaters, meanwhile, were near parity with four upgrades versus five downgrades. In terms of large loans and single asset/single borrower deals, these had 15 upgrades and 23 downgrades while credit- tenant leases continued their poor performance, with two upgrades and 12 downgrades.

The upgrade/downgrade ratio varied significantly by initial tranche rating. For investment-grade tranches, upgrades exceeded downgrades 33 to 30. However, for speculative grade tranches, there were five upgrades to 24 downgrades.

In other third quarter events, there were a number of upgrades leading to ratings restorations for several large loans as the borrowers acquired adequate terrorism insurance.

Philipp said, "We expect to see this trend continue and note that not only has the amount of terrorism insurance coverage significantly increased, but that many blanket policies have improved to include ‘per occurrence’ language." He said that this language protects investors from getting less coverage because of an event elsewhere in a borrower’s portfolio.

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