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CRE Finance World, Autumn 2013

are down the road, some of the pressure can be alleviated. The key is keeping the lending based on sustainable cash flow and really recognizing that the growth trajectory that we are in, alongside a rising rate environment, is softer than prior post-recessionary periods. Lisa Pendergast: One development that’s puzzling me in the current round of new CMBS deals in the market is the increased size of 5-year triple-A tranches. This indicates to me that conduit lenders are originating a lot more 5-year loans than was the case earlier in the year. Why would borrowers not want to lock in today’s still low long-term rates? Is it because the higher rates on 10-year loans lead to much lower debt service coverage ratios that don’t meet lender underwriting criteria? Greg Michaud: From our perspective, we’re receiving numerous calls on 20 to 25-year loans; we’re seeing a lot of appetite for these longer-dated loans from borrowers who are going to sit on the property forever. We are still not getting a lot of requests on the short paper, though we will as rates move higher. We will get more active on the short end of the curve right now as those rates become more attractive, and that’s really from pension funds that desire shorter loans. They borrow low leverage so you don’t have to really worry about refinance issues. We have seen some borrowers who originally requested 10-year deals now looking for 5-year loans because the coupon works better. We have a stringent refinance test and we are shying away from those deals because we don’t think the loans will refinance in 5 years if 10 year yields increase to over 5%. Mitch Resnick: From where I sit, we are starting to see a little bit of pick-up in interest down the curve, meaning five years and seven years. It really is a function of the steepening that we have witnessed in the past few months. Borrowers feel they can get more proceeds but if they can’t, at least get a lower coupon for their loan. One other thing I think you may be experiencing as far as the creation of five-year classes in securitization, is that with rates at such historical lows that when you run a 30-year am-schedule, the amount of amortization that you get in the first ten years at these prevailing rates is almost double the amount that you would have seen five or six years ago. Since most of the five-year classes are just absorbing the amortization, you’re going to see growth in those classes compared to the types of deals you saw pre-crisis. Samir Lakhani: I would say shifting some loans to the five-year class certainly seems to have eased the burden of placing some of the larger ten-year classes that we saw earlier in the year. Five-year bonds also have the benefit of being exposed to less duration, an CRE Finance World Autumn 2013 12 obvious concern this year. However, I would also point out, that at that part of the curve, there is a considerable amount of legacy product from ’06 and ’07, with a similar weighted average life, competing for that capital. And if you look outside of CMBS, in the securitized product set as a whole, there is a lot of product at that part of the curve as well. So while ratings may be more uniform on new-issue product, I think flexible capital has more options to choose from when you are looking at the five-year part of the curve. Lisa Pendergast: When I think about legacy dupers that are now in that five-year area, the first thing that comes to mind is negative convexity — that worry just doesn’t exist on the newissue side. In a way it makes the universe for those bonds very concentrated and comprised mainly of credit-focused investors who are willing and able to conduct the diligence. Samir Lakhani: I think you are right. The legacy universe as we move closer to maturity is becoming more idiosyncratic. It’s easier to say that for the junior securities but it’s also becoming the case for senior securities as well, as many are trading at significant premium dollar prices. If we have an easy policy back drop on the front end of the curve, and we will get more information to that effect from the Fed this week, the premium price impact will continue and so doing your work on the underlying loans to estimate timing of cash flow will be critical. Lisa Pendergast: One thing that does concern me going forward is that a further backup in rates comes not because the economy is showing improvement or is on the verge of becoming inflationary, but because the Fed has determined it’s time to take the punchbowl away and allow the markets to walk or crawl on their own. We’re not really seeing the economic growth that one would normally see in such a backup. So the concern might be that even though rates are rising, the commercial and multifamily markets are not enjoying the meaningful pickup in demand, occupancies, and rents that normally would accompany such a move. We’ve had a pretty easy go of it, all things considered, in terms of the refinance-ability of legacy loans; the hit ratio for refinancing some of these loans would not be as high as it is if rates were higher. I’m worried that this could change going forward — and the difficulties may not just be in legacy CMBS loans, portfolio lenders may run into difficulties as well. Sam Chandan: I just want to jump in on one point there. We should be careful to avoid assuming that the increase in rates necessarily implies improvements in economic activity. That’s true a lot of the time; it was not the case earlier this summer, when the immediate trigger was an expected shift in monetary policy. There is this CRE Finance World Roundtable: Macro Issues Facing CRE Finance


CRE Finance World, Autumn 2013
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