Capital Markets Update Week of 10/29
October 29, 2024
Private-Label CMBS and CRE CLOs
Two transactions totaling $1.5 billion priced last week:
- BX 2024-VLT5, a $755 million SASB backed by a fixed-rate, 10-year loan for Blackstone’s QTS Realty Trust to recapitalize three data-center properties, totaling 691,000 sf, in Northern Virginia
- BMO 2024-C10, a $724 million conduit backed by 28 10-year loans secured by 65 properties from BMO and five other loan contributors
According to Commercial Mortgage Alert, the pipeline through the end of December shows ~$13 billion in transactions, including nine conduit offerings totaling more than $8 billion.
By the numbers: Year-to-date private-label CMBS and CRE CLO issuance totaled $91.7 billion, more than double the $36 billion for the same period last year.
Spreads Largely Steady
- Conduit AAA and A-S spreads were unchanged at +86 and +125, respectively. YTD, AAA and A-S spreads are tighter by 30 bps and 40 bps, respectively.
- Conduit AA and A spreads were unchanged at +155 and +190, respectively. YTD AA and A spreads are tighter by 70 bps and 185 bps, respectively.
- Conduit BBB- spreads were unchanged at +500. YTD, BBB- spreads have tightened by 400 bps.
- SASB AAA spreads were tighter by 0 – 6 bps to +118 to +143, depending on property type. They have narrowed sharply from +143 to +212 at the start of the year.
- CRE CLO AAA spreads were tighter by 5 bps to +160 / +165 (Static / Managed), while BBB- spreads were unchanged at +450 / +475 (Static / Managed), respectively.
Agency CMBS
- Agency issuance totaled $2.6 billion last week, consisting of $1.7 billion in Fannie DUS, $448 million in Ginnie transactions, and $397.1 million in Freddie K and Multi-PC transactions.
- Agency issuance for the year totaled $87.3 billion, 14% lower than the $101 billion for same-period last year.
The Economy, the Fed, and Rates…
Economic Data
- GDP and Consumer Spending: Economists have adjusted growth projections upward for the third and fourth quarters 2024, anticipating around 2% growth through early 2025. This revision follows resilient consumer demand, suggesting that inflation will remain sufficiently controlled to permit the Fed to reduce rates gradually. The recession probability in the next year has been reduced to 25%, the lowest since March 2022.
- Labor Market: The labor market continues to show mixed signals. While recent data showed stronger-than-expected job growth, October's payroll is anticipated to drop by 10,000 jobs due to transitory disruptions (e.g., hurricanes, strikes). This mix of resilience and deceleration in hiring could signal a transition to slower employment gains as the Fed’s rate cuts aim to avoid an overheated labor market.
- Consumer Sentiment: The University of Michigan's Consumer Sentiment Index rose to 70.5 in October, up from 70.1 in September, reaching a six-month high. This increase was partly driven by expectations of further interest rate relief, suggesting that the Fed's half-point rate cut in September is having a positive impact on the consumer outlook.
- Housing Market Challenges: The housing market remains stuck, with sales of existing homes on track for their worst year since 1995 for the second year in a row. This persistent weakness highlights the ongoing challenges of high prices, low inventory, and the impact of higher mortgage rates. The rise in mortgage rates since 2022 has exacerbated the shortage of existing homes for sale, as homeowners with low-rate mortgages are reluctant to move. This "lock-in" effect is contributing to the market's stagnation and keeping home prices elevated.
Fed Policy
- Neutral Rate Debate: Fed officials face uncertainty in defining the "neutral" rate, or R-star, to sustain low inflation and low unemployment. R-star is becoming increasingly important in Fed decision-making despite its inherent measurement challenges. The Fed aims to find this theoretical neutral point, but estimates range widely from 2.4% to 3.8%, highlighting an uncertain path for further cuts. Experts like PGIM’s Tom Porcelli warn that Fed decisions will increasingly rely on real-time data as they approach this elusive equilibrium.
- Caution Against Over-Cutting: Cleveland Fed President Beth Hammack and other officials expressed caution against aggressive cuts, wary of re-stimulating inflation. Hammack noted geopolitical risks and sustained inflation in housing services. “Supercore” inflation (core services excluding housing) remains above 2%, suggesting lingering inflation pressures, though overall inflation has moderated closer to the Fed’s target. Some argue the Fed might have to pause or even reconsider its rate-cutting cycle if economic resilience continues to fuel inflation.
- Election Impacts on Fed Policy: The Fed’s course could shift depending on the November election outcome, which may influence fiscal policies and inflationary pressures. The expectation of a “no-landing” scenario, or sustained economic growth without a recession, could limit the extent of Fed cuts if inflation remains a concern.
- Shift in Investor Expectations: Following the Fed’s September rate cut, investors initially anticipated further easing; however, stronger economic data and election uncertainties have dampened these expectations. Pimco’s Mike Cudzil describes a pattern of “overzealousness” in rate cut expectations, now being tempered by resilient economic indicators.
- Federal Reserve Meeting (November 6-7): The FOMC will convene shortly after the presidential election, with markets keenly awaiting any policy shifts or guidance on future rate cuts. Despite the caution expressed by Fed officials and market participants, CME’s FedWatch tool anticipates a ~95% probability of a quarter-point cut at the November meeting.
Bond Market Dynamics and Treasury Yields
- Treasury Yields Surge: Treasury yields have surged, with the 10-year yield up 16 bps last week to 4.24%. The 10-year yield is now up 59 bps from September 17, the day before the Fed’s half-point rate cut. This sharp increase reflects growing concerns about inflation and fiscal sustainability and a reassessment of the Fed's rate cut trajectory. The ICE BofA Move Index, which tracks expected swings in Treasuries, climbed to the highest level this year, indicating heightened market volatility.
- Term Premium Concerns: Market participants also cite the term premium – the extra yield investors demand for holding long-term bonds – as central to the upward pressure on yields. Rising term premiums reflect investor worries about fiscal sustainability. Analysts like Torsten Slok from Apollo highlight the concern that persistent high yields point to market skepticism over the long-term fiscal outlook, particularly with the potential for increased deficits under either candidate’s administration.
- Bond Vigilantes' Return? The increase in the term premium has sparked discussions about the return of "bond vigilantes"—investors who demand higher yields in response to fiscal profligacy. However, some analysts caution against overinterpreting this trend, noting that the term premium remains low by historical standards.
- Volatility and External Impacts: Treasury volatility has reverberated globally, affecting currencies and commodities. The dollar is experiencing its strongest rally in two years, impacting the yen and the Mexican peso. In anticipation of fiscal and political shifts, volatility is “locked in” for the medium term, as highlighted by Brandywine’s William Vaughan.
- Impact of Political Developments: The possibility of a Republican victory, bringing a “Trump trade” of tariffs and tax cuts, adds layers of uncertainty. While such policies could heighten inflation and further pressure bond yields, analysts like Capital Economics suggest Republicans might face constraints if bond markets react adversely to aggressive fiscal expansion.
Go deeper: You can download CREFC’s one-page MarketMetrics with statistics covering the economy and the CRE debt capital markets here.
Contact Raj Aidasani (raidasani@crefc.org) with any questions.