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CRE Finance World, Autumn 2013

A publication of Autumn issue 2013 sponsored by CRE Finance World Autumn 2013 11 enjoyed a much quicker return of liquidity. Nowhere else was that more evident than in the multifamily sector, with the GSEs providing liquidity to that market very early on during the crisis. The result was that multifamily led our industry out of the crisis, with the commercial real estate markets following suit. Portfolio lenders, particularly the life companies, were quick to provide both debt and equity capital to the sector, and by 2010 CMBS conduits were on the mend providing another source of capital for property owners. With that as backdrop, does the recent backup in rates slow that progress going forward? What does it do to origination volumes and the re-financability of legacy loans? Mitch Resnick: One thing I want to note as far as liquidity is concerned is the time frame we are considering. Sam rightfully pointed out before, that the speed at which rates move will have an impact. It definitely had a big impact on securitized lenders. We saw 10-year Treasury rates bounce up 100 basis points in a period of two months; it had a dramatic impact on the overall liquidity of the loan market. Typically, you see spread product and interest rates have a slightly negative correlation. What we experienced in May and June was a rare positive correlation; as rates went up, and spreads widened. That was a function of investors being uncertain about what the Fed was going to do next. You saw “buy the rumor, sell the fact” as the market overreacted to the initial taper talk. There was a major reaction as to what was coming out of the Fed at that time and it was a concern. As liquidity started to dry up, spread product went wider, therefore loan liquidity from securitized lenders started to dry up. However, that wasn’t a long-term thing. It was relatively short-term in the grand scheme of things, but it’s important to note. I wonder if we had seen the same rate increase take place over a period of three to four months and for it to be a steady, gradual thing, if we would have seen that pocket of illiquidity that we experienced. Larry Brown: I think you said that beautifully, Mitch. That was my answer as well, which is, if rates rise gradually, it’s okay. Lucky us, we’re not selling luxury goods; we’re selling and trying to originate mortgages. Unless you’re Warren Buffet, if you’re buying a property, you need to borrow money; if your 10-year balloon is coming due, you need to borrow money. As long as there aren’t those sticker shock moments, where you wake up one day and rates are way different from yesterday and you’re getting significantly less proceeds or more expensive proceeds — commerce will take place. So inasmuch as rates are historically low, if rates rise gradually, then I think we can all do business. It’s those sticker shock moments that make everyone pause. Greg Michaud: From a life insurance company perspective, we’re still much keyed on coupon. While spread is important, coupon really drives the life company. It creates more liquidity at least from a life company perspective, (as much as life companies can create liquidity in the market for the $50 billion or so they do a year) because the absolute coupons are going up, especially on the short end of the curve. This actually enables us to lend more money on 3- and 5-year term deals because even though the spreads haven’t changed much, and in some cases we are absorbing the increase in spread a bit, the absolute coupon is up compared to what it was when it was a 160 basis points over the 10-year Treasury. On that basis, we can now get a coupon in the mid-3% area whereas that coupon six or seven months ago was 2.5%. We’re having conversations internally regarding where rates are going; portfolio management is interested in allocating more money to CRE because it, as well as private placements, has been a good relative-value play. So the rate movement actually creates a little more liquidity, at least for life companies, because the coupon is that much more attractive. Lisa Pendergast: From an investor’s perspective, what is your view on the impact of rising rates on credit quality? Do you worry about legacy refinancing? Samir Lakhani: We experienced a “risk-off, rates-off” dynamic over the summer months. What was really interesting to note out of that was yield-oriented capital could purchase further up the capital structure in CMBS, as a combination of higher rates and higher spreads satisfied yield requirements. We hadn’t really seen much of that before. Credit curves are naturally going to steepen when you have volatility, but if you look at these new issue transactions you see the lingering effect; senior classes have retraced more of their summer wide levels and subordinate classes have lagged. As for credit, the rate back-up clearly puts pressure on certain loan metrics and that may hinder some of the refinancing of legacy CMBS loans. For example, the coverage ratio is something we are all focused on now. However, it also seems to me that there has been a lot of capital raised to fill down the capital structure. So it really comes down to location and property type. There were a lot of trophy assets securitized in legacy product that may attract capital upon refinancing. With respect to new-issue product, to the extent we are locking in higher coupons today and closing the gap to where expected rates CRE Finance World Roundtable: Macro Issues Facing CRE Finance “The rate movement actually creates a little more liquidity, at least for life companies, because the coupon is that much more attractive.”


CRE Finance World, Autumn 2013
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