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CCIM » CIRE Magazine » CIRE Archives » Jul.Aug.15
A competitive market creates a mostly sunny outlook. by Tim Koltermann
A competitive market creates a mostly sunny outlook.
by Tim Koltermann
Commercial mortgage-backed securities lending is alive and well — maybe too well, depending on where you look in the market.
One of the biggest strengths of the current CMBS market is its efficiency, with more than 30 investment firms competing nationally, including specialty finance firms, banks, and bank-holding companies. Firms with coast-to-coast reach, in particular, are seeing a considerable amount of lending activity.
No doubt, there is plenty of opportunity in the CMBS lending market thanks to the unprecedented amount of loans that were sold from 2005 to 2008. But those opportunities don’t really mean much unless the underlying economics and commercial property markets are healthy. Fortunately, the U.S. economy is getting stronger and commercial real estate, including CMBS lending, is participating in that strengthening.
Currently, CMBS lending couldn’t be a better market for borrowers because there is so much competition. One of the chief factors fueling this competitiveness is the healthiness of the market’s bond component. As an investment product, on a relative value basis, CMBS bonds are inexpensive compared to other fixed income products. Moreover, CMBS bonds are the only product out there with any significant duration, which means CMBS bonds have good convexity with regard to yields. Not only is CMBS lending an incredibly transparent market, but CMBS loans also have excellent call protection. These key factors forecast for positive CMBS spreads.
Clouds on the Horizon
There is a downside to the heated competition in the CMBS loan market. The competitive environment is forcing lenders to be more creative in how they structure loans. Some lenders are aggressively going as high as 80 percent loan-to-value on certain property types, which could portend a negative trend for CMBS lending.
Currently, in stronger markets such as Boston, New York, Chicago, and San Francisco, properties are being aggressively bid. Property values are at capitalization rates tighter than the yields on 10-year U.S. Treasurys. While we are not seeing this trend in every market, the rate at which commercial property values are rising warrants some concern.
At the same time, it feels as if B piece buyers are getting much, much tougher — much more credit sensitive — than they were previously. These buyers of non-investment grade components of CMBS capital structures have the ability to turn down loans that are part of CMBS deals. Every CMBS deal needs an investor to buy the riskiest B-rated securities, which get hit first by any losses to the loan pool. That is why investors who buy the riskiest B-piece bonds earn the right to set underwriting standards for conduit loans.
This is good for CMBS investors, because it makes the loan seller’s job more difficult. Lenders need to make loans based on the right credit decisions. But with B piece buyers getting a lot tougher on credit, this could create a further squeeze in the already competitive CMBS lending market.
Another development that will impact CMBS lending is the pull back of the government-sponsored enterprises. Fannie Mae and Freddie Mac are getting close to hitting the caps set on the 2015 scorecard issued by their regulator, the Federal Housing Finance Authority. Consequently, the CMBS market is going to see many more multifamily loans than it would have previously.
Taking all of these factors into account, the forecast is that the CMBS loan market will continue to be a critically important source of funds for commercial real estate investors. It certainly was before the crash, and as long as the U.S. economy continues to improve, there is every expectation that CMBS lending will stay healthy.
No doubt, given the wave of maturities that is coming, there will be plenty of CMBS loans written over the next couple of years. There are a plethora of deals out there, and competition in CMBS lending won’t be relenting any time soon. Who is going to do the best in this market? That depends on how well banks — and shadow banks — are able to adapt to the changing credit landscape.
On the most fundamental level, to be successful in the CMBS lending market, lenders have to see deals. The more deals a lender sees, the more that lender will benefit from the market. It’s when lenders are not seeing enough deals that they are more inclined to do loans they normally would not do. The most successful CMBS lenders will be those who can tap into a nationwide infrastructure that enables them to see deals from coast to coast.
Tim Koltermann is senior vice president and group head of commercial real estate originations and operations for Walker & Dunlop Commercial Mortgage Funding. Contact him at www.walkerdunlop.com.
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