As a sign that the European CMBS market might be coming back to life, Lehman Brothers priced its Windermere XIV, the first CMBS deal seen in Europe in nearly five months. Investor reaction to the deal could be indicative of renewed interest in CMBS.
The CMBS sector has suffered a complete shutdown in the last four months. Even though problems in the European market mainly affected RMBS-related products and CDOs, investors still avoided all securitization deals. However, Lehman's success has opened the door to further issuance as more banks are expected to announce CMBS deals in the next weeks.
The triple-A investment grade tranche of Windermere XIV, worth around $1.2 billion of the Windermere's $2.3 billion total worth, was priced at 45 basis points over the three-month Euribor, significantly wider than bonds sold before the credit crunch, which traded below 25 basis points in April 2007, according to Societe Generale research. The deal is pan-European, comprising nearly 600 properties from across Finland, France, Germany and Italy.
The double-A tranche priced at 75 basis points and the A tranche at 120 basis points, compared to April's average of above 30 and 50 basis points, respectively. The triple-B tranche priced at 190 basis points, nearly two and a half times higher than typical rates in mid-2007. When Lehman sold its Windermere X issue last April, the triple-A tranche of the bonds was 16 basis points over the three-month Euribor. Investors were more than happy with Windermere's latest offering and many took the initiative to undertake independent research on the deal, which was a new development, said Tarig el Sheikh, a structurer in Lehman's global real estate finance team.
The Right Direction
Despite the wider levels, the deal is seen as a positive step, and it seems that after many months, the time may finally be right to bring CMBS transactions to market. For example, Deutsche Bank was thought to be coming to the CMBS market in August with its 1.25 billion ($1.82 billion) Deco 17 pan-European CMBS deal, but the firm decided to delay.
Now, according to market sources, reports on the Deco 17 capital structure and pricing may be announced as early as this week, as Deutsche Bank makes its move. The underlying pool of Deco 17 comprises 12 loans secured on 5,773 properties with 31,371 tenants in Germany (97.2%) and Sweden (2.8%). The portfolio has a 66.9% weighted average loan-to-value ratio, Royal Bank of Scotland analysts said.
Investment bank notes, deals with higher geographical concentrations, such as one written entirely on office space in London, are the riskiest CMBS deals, although transactions such as Windermere and Deco have helped to flesh out this risk, say analysts at Societe Generale. "However, the increase of pan-European brands causes some concern, especially in retail," said the SocGen analysts. Nonetheless, a greater concern lies in the big picture farther down the line, said CMBS sources. For instance, should recession hit Europe as a whole, loan refinancing rates are sure to suffer and prepayments are likely to decrease to a point of near-nonexistence, according to a CMBS rating agency analyst. "The slowdown in prepayments, in the U.K. in particular, would be exacerbated by an interest rate rise," the analyst said.
A SocGen report said that Europe's overall economic outlook remains relatively buoyant and that CMBS still offers significant value as long as market participants take into account building risks, such as the upkeep of the property's conditions, considering many office buildings are now reaching 30 to 40 years of age and entail significant upkeep costs when compared with newly built commercial spaces.
On the senior note level, analysts said that solid credit enhancements backed by sufficient liquidity facilities that ensure timely interest payments offer good value based on current trading levels. However, the investment bank voiced its concerns over sponsors with little capital, because a reduced borrowing capacity that could force the sale of the property and depress prices further.
"Properties with solid debt-service coverage ratios from a high-quality or a highly diversified pool of tenants guaranteed well beyond the note maturity date pose little risks," the report said.
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