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CRE Finance World, Winter 2014

From the rating agency perspective, the information being provided is good but less than ideal as there is beginning to be some information “slippage” and more “story” assets in pools. In addition, time compression for deals has increased leaving less opportunity for diligence. The rating agencies do not kick out loans but still wield their only real tool in the securitization process — setting the required credit enhancement for their ratings. From that, the issuers structure their deals to provide the requisite subordination levels for their tranches to achieve their ratings. The time compression has heightened sensitivity to loan issues and no one saves their problems to discuss at a later date. Loans are prescreened with B-piece buyers’ initial due diligence conducted in 12–14 days in order to give the issuer an indication of interest, which is not a commitment but subject to at least four more weeks of diligence to review disclosure, assess risks and evaluate proffered mitigants. Today there is more prescreening of assets. After all, the B-piece buyer in effect invests in the worst 5-7% of the pool assets and needs to be comfortable with the pool and the mix of asset types. With the entrance of new originators and the resulting competition, it was inevitable that loan proceeds would increase relative to stabilized property cash flows. Based on historical data of legacy loans, with respect to the relation between increased LTVs and loan default/ loss severity and recognizing a market trend, the rating agencies have begun to require additional credit support for higher LTV loans. The issuers are recognizing a cost for their generosity to borrowers to the detriment of their securitization’s profitability. Whether the rating agencies can curb this troubling trend in light of the competition for loan origination for securitization is yet to be seen. CRE Finance World Winter 2014 34 As to composition of property type loans being deposited in CMBS deals, there were some serious questions concerning the relative allocation in pools. In 2007, at most hotel loans were 7% of any given pool, while today on average hotel loans make up 15–20% of pool assets. Is that appropriate for an asset class that is experiencing historical peak cash flows and thus peak debt yield? And with hotel construction on the rise nationwide, the net supply of rooms is increasing and that factor is the single greatest cause for hotel defaults. There is also concern among some panelists regarding the creep of increased retail concentration in pools. According to the rating agency, bad malls account for the greatest loss severity in CMBS. All of the panelists expressed concern about rising interest rates especially in connection with the refinancing of the overleveraged 2005, 2006 and 2007 legacy loans but were also particularly worried about disparate property value recovery between major markets (96%) and non-major markets (52%); rent growth; cap rates. Finally, the rating agency panelist finished by observing that lenders must look beyond “point in time” analysis of issues, which is always beneficial for equity players selling or seeking loans but a less than wise strategy for debt players who must begin and end with their focus on the endgame — the ability to refinance at maturity — and how that is affected by IOs, loan proceeds, debt yields, leverage, and the sustainability of cash flows beyond the point in time of underwriting the loan. While the panel agreed on many issues, they did vet their different takes on the issues as much by what they didn’t as by what they did say. The moderator’s firm also provided an excellent PowerPoint on “U.S. CMBS Market Trends,” which can be found on CREFC’s website. The Quality of CMBS Issuance Today


CRE Finance World, Winter 2014
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