Already a major player in the Canadian asset-backed securities industry, Coventree Capital Group has recently made a hire to advise debt issuers in the country's emergent commercial mortgage-backed securities market.

Ken Toten was hired by Toronto-based Coventree as the managing director for real estate securitization. Formerly of Citicorp, Toten brought his CMBS experience to add to Coventree's established ABS structuring skills.

Coventree itself is a small investment bank, founded a little over a year and a half ago by three partners, David Ellins, Dean Tai, and Jeff Cornish. Cornish and Ellins, who was one of the originators of the ABS industry in Canada, had been securities lawyers for a major Toronto law firm, and saw the opportunity to make a living in an advisory, structuring and distribution capacity. Since its incorporation in August 1998, the company has broadened its product line from a core of ABS with a focus on credit cards and typical ABS, to CMBS and lease securitization.

In a country that is also experiencing a decline in issuance of triple-A government bonds, investors are looking elsewhere for sources of capital. That leaves the CMBS industry wide open for future development. "The commercial mortgage-backed market is very undeveloped in Canada," Toten said.

There have only been three CMBS term transactions in Canada, all of which were done by Merrill Lynch & Co. They are continuing to aggregate for a fourth one, while General Motors Acceptance Corp. is just about to open up in Canada with the intent of originating CMBS.

Coventree's role in the industry, in the medium term, will be "strictly in an advisory capacity," Toten said. He suggested three ways in which he can help companies who wish to offer issuance.

The first is to bring CMBS to the potential issuers and help them identify a strategy for dealing with and structuring it, and to set up pricing models and systems within the organization.

Second, if institutions want to directly originate, then Coventree will help them set up a program for that.

And finally, if an institution wants to take a portion of their portfolio and bring a seasoned pool to market, Coventree will help them identify the proper assets, deal with the rating agencies and structure the security.

Give Me a B'

Toten noted that Coventree will do some limited selling, but because Coventree is limited to private placement, "we'll have to involve a Canadian dealer to help us sell some of the resulting bonds," he said.

Coventree initially wants to sell lower rated bonds, from single-B to triple-B, because he said they are the most difficult to deal with in Canada. "There are not very many B-piece buyers in Canada," Toten said. "Up to this point, it's been something either the issuer has held or they're sold to a U.S. B-piece buyer."

Toten's first mandate, given to him at the end of October, is to work with a Schedule 1 (Canadian-based) bank to put structures together for that institution to start a CMBS origination program. He has said the program does involve a Canadian B-piece buyer.

"Just in the couple of months that I've been doing this, it's become evident that the development of a B-piece market is a priority we're going to have in the future," Toten said. "We have been and we'll continue to talk to a lot of potential B-piece investors."

Let It Grow, Let It Grow

Toten sees a great deal of growth potential in the Canadian CMBS market, because a majority of the major insurance companies are demutualizing, or becoming publicly traded companies. "They're looking at ways in which they can make their balance sheet more friendly," Toten said. "They're heavily on mortgages and their returns are probably not the kind that the public will like to look at."

He added that the insurance companies have capital concerns and returns-on-equity (ROE) that the companies never had before as a mutual company. "Their mutual investors were happy with a 7% or 8% return, whereas the public isn't," Toten said.

Also, the Canadian banks are becoming more focused on economic return, ROE and capital allocation. Along with this is a very high regulatory capital and risk capital assigned to mortgages in relation to their ability to generate the revenue.

"So in our view, all of the Canadian banks have a varying degree of interest in developing this product and there are several on the forefront," Toten said. "So we believe that CMBS is poised to have a fairly good breakout over the next couple years, and that's really why we've made this commitment to be a part of that."

The only impediments to the growth of the CMBS industry are the lack of B-piece buyers and the general level of knowledge in the market as to what CMBS is and their risks from the investor perspective. This is simply because there has not been much product available.

Coventree is currently in talks with the Office of the Superintendent of Financial Institutions, the regulating body of Canadian CMBS, and the competition bureau to draw up regulations that fit its mission.

Alongside practically creating the Canadian CMBS market, Coventree is also dealing with a few real estate-related ABS deals involving lease securitization, as well as a deal with a Schedule 2 (foreign-owned) bank in a personal loan securitization. Toten sees this industry taking off in the near future for the same reasons he expects CMBS to take off.

Since Coventree's incorporation, the company has surpassed its anticipated goals, and continues to exceed expectations. "It's well capitalized from the perspective of an operating entity and is performing better then they had anticipated," Toten said.

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