Just after the first new-issue CMBS launched late last month, talk of a new deal about to come to market has sparked hope that things may be improving in the CMBS space.
Inland Western Retail Real Estate Trust closed on Tuesday $625 million in new financing from JPMorgan Chase to pay down its existing debt. The bank, according to market reports, is expected to convert the $500 million first-mortgage part of the financing into a CMBS offering and sell through private placements the remaining $125 million in mezzanine notes.
U.S. mall owner Developers Diversified Realty Corp. (DDR) kicked off new CMBS issuance by selling $400 million of securities late November under the Federal Reserve’s Term Asset Backed Loan Facility (TALF), which is the first offering under the new-issue CMBS TALF.
Market analysts believe it’s the first step toward restarting the non-government sponsored CMBS market, which has been closed since June 2008. It brings with it some much-needed capital to the commercial real estate universe.
The deal was met with strong investor interest, according to market reports. The positive response allowed DDR to reduce pricing spread from as much as 175 basis points. Its $323 million triple-A rated, five-year notes came in at a narrower 1.4 percentage point premium to the five-year interest rate swap benchmark, or a yield of 3.807 percent, market sources said.
The substantial spread tightening in the deal from original price guidance and final pricing suggests an enthusiastic investor reception. TALF financing was used for only 22 percent of the transaction. Cash investors who did not use TALF financing accounted for 78% of the buyer base.
Another CMBS deal being marketed to investors right now is a $460 million offering backed by properties owned by private-equity firm Fortress Investment Group. That deal, led by Bank of America Corp., is also expected not to use TALF.
The $625 million in 10-year financing is backed by 55 retail stores owned by Inland throughout the country, and represents 75% of the property's value. The loan-to-value ratio is higher than the 50% of the Developers Diversified offering, which was collateralized by 28 shopping centers.
But does this mark a real return of the new-issue CMBS market?
Malay Bansal, managing director at NewOak Capital said that DDR deal's pricing at better-than-expected spreads while undoubtedly a positive for the CMBS market, might have resulted in some misplaced market optimism.
"DDR and the follow-up deals will be single-borrower deals,” Bansal said. “Hopefully that will encourage conduit lenders to start originating new loans at some point, and with lower LTV on new loans, these deals will attract investors, as clearly demonstrated by the pricing on the DDR deal.”
However, commercial real estate prices, as measured by Moody's/REAL index, are down 42.9% from the peak and have now retraced all the price gains since Sep 2002. New loans will be based on these new lower values, and that would not be helpful to the legacy triple-B and triple-B minus bonds.
According to JP Morgan going forward any new-issue CMBS will be viewed in a different light and will be largely or entirely insulated from the volatility faced by legacy CMBS.
“We expect little issuance in 2010; the issuance that does occur will be in the form of single borrower deals, or revert to significantly smaller conduit deals, similar to those last seen in the mid-1990s,” said JP Morgan analysts. “Larger loan execution might only get done via syndication or through ‘club’ transactions.”
Refinancing Issue Is Still Here
An estimated $1.4 trillion of commercial mortgages are expected to mature through 2013, but financing sources of all types including the CMBS market have dried up.
The more significant issue that banks, insurance companies, and CMBS bondholders still have to deal with is the inability of many borrowers to refinance their loans at maturity. According to Deutsche Bank Securities research, banks' lending to commercial real estate is down 86.5% from the market peak in 2007 and the lending by life insurance companies is down 71.4%.
“If all loans currently held in portfolios or securitizations were forced to immediately mark to market, it is likely that most of the banks in the country would face devastating losses,” said JPMorgan Securities analysts.
However, they said that while some of these loans will default and liquidate at maturity, there might be many more that will mature far enough into the future that they will be able to successfully refinance either outright or by the sponsor infusing the necessary equity.