Steady interest in structured commercial mortgages is at worst holding spreads unchanged, as is the case in triple-As, and at best causing significant tightening in mezzanine credits. The overwhelming reason comes from the diversity of collateral, protection from prepayments due to debt covenants, and credit protection from the general nature of the structure. Compared to other credit sectors, CMBS has been holding its own so far this year.
On a stand-alone basis the back-up in interest rates caused a 190 basis point decline in total returns for investment-grade paper, according to Lehman Brothers. But IG CMBS beat Treasuries by 45 basis points and single-A and AAs led comparable corporates by 61 and 36 basis points, respectively. Lower-rated credits, BBs for instance, lagged high-yield corporates by 367 basis points, though March was the second-best month for HY in excess returns. Versus agencies, gains in the five- and 10-year AAAs were 31 and 42 basis points, respectively, with similar - 32/47 basis point - gains versus RMBS.
As mentioned, performance gains have been largely found in mezz-class issues where CDOs and insurance-type accounts have been active. Spreads were unchanged on the week, but have tightened 27 basis points from six-month averages in BBBs, 35 basis points for BBB-, and about 7 basis points for AAAs. This flattening has caused a general interest in moving up in credit. Greenwich Capital Markets notes that the AAA/BBB and AAA/BBB- curves are 18 and 23 basis points flatter, respectively, from the outset of 2002. And while still five and 20 basis points steeper than historical flats of early 2000, it makes sense to move into higher credits as prices have come down and the prospects for limited supply boost interest in those credits. As well, Merrill Lynch believes that the credit curve is too flat and that higher credits will outperform.
Supply is the real driver. So far this year, domestic issuance is reportedly 25% lower than last year, with most of the decline coming from the non-conduit market, according to Greenwich, as conduits issuance is at $5.6 billion this year versus $6.2 billion over the first quarter 2001. But looking ahead, yearly volume projections are being trimmed due to higher interest rates brought on by an improving economy. This has already light supply calendars in jeopardy of shrinking; making the prospect for tighter spreads an improving bias.
Recent pricings include a floating-rate issue from JPMorgan that Greenwich believes may set some new pricing benchmarks for future floaters provided the collateral remains clean. There are some deals on the horizon of note, including the currently marketing GE Capital conduit as well as two other conduits and one floater planned for April. Beyond that, the lack of resolution on the terrorism insurance and higher interest rates leave the future calendar somewhat uncertain.