As the appetite for commercial mortgage-backed securities gains momentum following a sharp decline during the fall of last year, market players are seeing a definite resurgence of large single-asset and/or multiple-asset, single-borrower transactions recently, reflecting a debt window for real estate investment trusts that is quickly slamming shut.

According to a special report put out by Standard & Poor's Ratings Group last week, more and more issuers are reverting to offering single-borrower transactions and very homogeneous conduits in an attempt to satisfy traditional CMBS buyers who prefer more risk-free ventures.

"REITs are encountering problems with stock, and are now rediscovering the secured lending capital markets," said Andrea Bryan, an S&P researcher. "The REITs are basically raising whatever capital they need in their CMBS market via a mortgage-backed security, whereas before this, they were raising capital in the equity market.

"To the extent that the equity market remains unfavorable for REITs, they are going to continue to access CMBS for whatever unencumbered properties they can use to do that."

"REITs are in a jam here," added Patrick Corcoran, head of CMBS for J.P. Morgan. "This is a strategy that makes sense, especially as they face rating agency restrictions. In order to keep high quality ratings, they decide to go into the CMBS market, because there is lots more financing available here."

S&P anticipates continued issuance of single-borrower transactions going forward, the report notes, to meet the funding needs of REIT borrowers and to avoid the unfavorable financing options in the equity markets.

In August alone, there were five single borrower CMBS transactions: Host Marriott, General Growth, MeriStar Hospitality, Simon Property and TrizecHahn. At least two similar offerings are expected for September - another General Growth deal underwritten by Lehman Brothers and Goldman, Sachs & Co., and Wyndham International, underwritten by Bear, Stearns & Co.

According to Ken Rivkin, head CMBS trader at NationsBanc Securities, single-borrower transactions for 1998 comprised 4% of all CMBS. For the first six months of 1999 alone, that figure has gone up to 19%.

"And year-to-date, it is somewhat higher than that," Rivkin explained. "This is due to alternate sources of financing, as well as an overall shrinkage of the conduit business. CMBS is the most efficient, cheapest source of financing for these transactions."

Investors Like Homogeneity

According to Bryan, what drives this push toward single-asset or single-borrower transactions is the fact that the majority of CMBS investors seem to be most comfortable with homogeneous, non-skewed conduits.

Over the last two years, CMBS has largely evolved into fusion transactions, wherein pools are comprised of both big and small loans, and large-loan transactions, which typically carry more risk, sources say. Now, the trend is swinging back in the other direction.

"Some investors express concern over exposure to large loans in a pool," Bryan noted. "And many of them do not have the real estate analytical ability to analyze large loans, and would therefore prefer homogeneous pools."

In a sense, as the market gets broader and the investor base widens, a bifurcation has emerged in regard to what CMBS investors are partial to.

For example, investors who buy traditional CMBS conduits, portfolio managers and other traditional buyers who are purchasing CMBS because it is attractive, tend to stick with basic, diversified conduits. Additionally, issuers want to avoid the inventory risks of aggregating a large loan pool transaction.

On the other hand, Bryan says, insurance companies, which have historically been very comfortable making loans on real estate and have well-informed real estate staffs, would be more comfortable with large loans.

"For your typical money manager who is a triple-A buyer, it is homogeneity that is important above everything else," said J.P. Morgan's Corcoran. "However, I think that there is a good market for deals that combine small loan conduits with higher grade larger buyers [fusion deals]."

Added Bryan: "In fact, when you have large loans mixed in, some investors believe it would heighten the risk to the deal. Newer investors, especially, are more comfortable with small loans and the pooling/diversity concept. But for some investors, especially large insurance companies, who put aside real estate investment buckets, large loans are more easily understood and analyzed.

"But the bread and butter pools are still what most investors are buying."

Fusion Deals Still Have Appeal

Fusion deals - which replaced single-borrower transactions in the mid-1990s as the most prevalent type of CMBS conduit - are still underwritten more aggressively than any other type of CMBS transaction.

"There is a viable market today for fusion deals as long as the superior credit quality of the larger loans is transparent," Corcoran explained. "We have seen some of the fusion deals well received."

According to Corcoran, the single-A-, single-B-, and triple-B-rated tranches of several fusion deals are usually bid very well, often as much as ten ticks better than the market standard.

In actuality, stand-alone single-borrower deals, such as the recent $330 million MeriStar Hospitality hotel deal from Lehman Brothers and Goldman, would normally be placed in fusion transactions, but would have trouble in that kind of vehicle.

"If you've got a pile of hotels, you are very limited in the way in which you stick that into a fusion deal," Corcoran explained. "The broader market is not going to take more than a small percentage of small-hotel exposure without hurting the deal."

The deal from Dallas REIT MeriStar Hospitality, backed by 19 hotels, did not fare so well in the market. After premarketing activity for the fixed-rate offering - which was being shopped in the realm of 155 over for the triple-A - MeriStar had to offer higher yields to attract investors, sources say.

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