Driven by investor demand and the availability of new structures, commercial real estate CDO issuance has reached nearly $30 billion so far this year, compared to only $14.5 billion in 2005 and $6.4 billion in 2004. While the sector has continued to perform well, Fitch Ratings last week warned that the pace of upgrades it has been enjoying is not likely to continue.

The rating agency pointed to the increasing use of revolving structures and expected slowdown in upgrades for underlying CMBS collateral as two reasons why CRE CDO investors should anticipate changes in the pace of ratings upgrades. Fitch specifically cited the growing use of developmental whole loans, which are secured by "riskier" properties such as condo conversions, construction loans and vacant or teardown properties. Fitch Senior Director Karen Trebach said investors should not assume whole loan pools are less risky than B-note or mezzanine debt pools because of the presence of whole loans backed by developmental properties - which could have a higher probability of default.

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