Investment Management Network's (IMN) fourth annual CMBS conference held in London last week had 480 market players in attendance, almost half of whom came from the buyside.
The mood was cautiously optimistic. While most were certain that CMBS will stage a comeback, it is still unclear how soon and in what form. What's definite is that the overall European CMBS market continues to perform, which means an ideal buying opportunity for investors ready to put their cash to work.
From an issuer's perspective, it makes sense that the current spread widening acts as a deterrent for entering the market. The consensus is that spreads are just too wide for the underlying credit risk.
"In theory, it's a great time to buy because the risk/return in the current pricing environment creates a great buying opportunity, but investors first have to see this mantra," said Caroline Phillips, managing director and head of securitization at Eurohypo AG. If the market is to have a recovery, the cash buyer needs to return first, she said.
Negative news such as an imminent U.S. recession has resulted in investors starting to contemplate what the implications might be for the U.K. and Europe, an uncertainty that is reflected in weaker CMBS spreads.
"We've seen significant widening, especially at the triple-A level, driven by hesitant investors that have the cash but the sentiment to hold back," said Birgit Specht, managing director and head of European ABS research at Citigroup. "We expect the credit curve to steepen. It has started to happen, and we have seen some real weakness at the triple-A level."
Further down the capital structure, things look even worse. "The leverage bid is what drove the market, and though there is great opportunity out there, not many investors are prepared to take a longer-term view - that is something we are trying to change, but it is going to take some time," said Colin Fleury, senior portfolio manager at Henderson Global Investors.
Christopher Walsh, a partner at Clifford Chance, said that banks have a large number of loans that they are ready to securitize, although he believes that issuers will have to rethink structures and said the market will begin to see more innovative transactions as well as the possible restructuring of older deals. "There is an awful lot of debt from conduit originators that didn't come out last year, and this needs to be restructured," he said.
There are plenty of distressed buyers looking for yield. Further, the market will also see new investors from Asia or the Middle East. Issuers will have to tailor deals to investors' needs, and the hotspots at which the market is currently looking are Middle East buyers, Walsh said.
Citi's Specht expects a severe downturn for the U.K. commercial mortgage sector, which has already seen a drop in valuation by 15%. She said that the market has reacted very quickly to correct valuations, although a longer downturn could mean things will get much worse.
Although valuations are important, the market should also be paying close attention to cash flow, said Faisal Ashraf, head of pricing, structuring and high yield capital markets at Credit Suisse.
Some players would like a return to a smaller European CMBS market. Now that the leverage bid has disappeared, they would like to see real money investors step in and close the gap. On a whole, this would mean much smaller volumes for CMBS. "We have to find other ways to sell the bottom half, and maybe introducing fixed-rate tranching as we have seen in the U.S., where the larger position is fixed-rate, should be the way to go forward in Europe," Fleury said.
Eurohypo's Phillips said that a 2003-type European CMBS market that is driven by real money investors could be back by the end of this year. "We need the support of the ABCP and RMBS markets to come back before CMBS returns. But even then, volumes will be substantially down and we will see more of a return to basics," a market source said.
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