Large Loan, Single Borrower CMBS Returns

Securitization of very large commercial loans, a hallmark of the CMBS market before the financial crisis, is making a comeback -- but with a twist.

It is still not practical to include commercial loans of several hundreds of millions of dollars in CMBS conduits, as was common in 2005, 2006 and 2007. That is because conduit deals have yet to reach the size that would provide enough diversification for a loan backing, say, a Manhattan skyscraper.   

But there are an increasing number of deals securitizing single, large commercial loans: some $10.9 billion for all of 2012, up 114% from $5.1 billion for all of 2011, according to FTN Financial.

Fourth-quarter issuance has been especially strong, with deals backed by One Times Square, 1290 Avenue of the Americas, 101 Park Ave, Las Vegas’s Fashion Show mall and Bridgewater Commons, an upscale mall in suburban New Jersey.

Yield-hungry investors have been snapping up such offerings, making it possible to finance these properties more cheaply than with insurance companies, their traditional lenders.

John Murphy, a director and research analyst at Conning, an investment management company that caters to insurers, said that some of the single-asset deals marketed in 2009, the early stages of the CMBS market’s recovery, were a tough sell.  The credit curve was quite steep, which diminished the securitization market’s ability to compete with private lenders.  CMBS originators had to offer higher risk premiums to compensate the uncertainty associated with spread volatility and liquidity in the market at the time. 

“Large lenders with a deep staff could go and look at the property physically and get comfortable with the asset, and they were able to step in at pretty attractive levels with depressed property prices,” said Murphy.

“Twelve months ago, the CMBS originators were probably struggling to compete with what have been the typical lenders in this space – insurance companies or other balance sheet lenders,” said Peter Eastham, managing director and lead analytical manager of U.S. CMBS Ratings at Standard & Poor’s. “But now because of contraction of spreads and the pricing phenomenon in CMBS, potential issuers can compete better to attract these sorts of loans.”

Single asset/large loan CMBS is a good space to pick up that yield. Kevin Howell, vice president/structured product strategies at FTN, said single-asset CMBS deals give investors the ability to stay at the top of the capital structure and still pull in the neighborhood of 20 basis points of extra yield compared with conduit CMBS deals, without having to sacrifice the credit enhancement.

There is a tradeoff, of course—additional yield comes at the cost of additional risk for investors. Large loan deals don’t offer the property type diversification or issuer diversification that is available in a conduit CMBS. Trading of paper issued by single-name deals in the secondary market is also somewhat less liquid, said Howell.

The bottom of the capital structure is a different story. Here, an increase in demand for lower-rated tranches of single-asset deals, coupled with the very limited supply, has pushed spreads inside those of similarly-rated tranches of conduits, according to Paul Vanderslice, co-head of CMBS at Citigroup.

An example is VNDO 2012-6, a $950 million deal backed by the fee interest in 1290 Avenue of the Americas. In November, the deal’s triple-A tranche priced at LIBOR plus 110 basis points, 20 basis points wider than spreads on similarly-rated tranches of conduits priced at that time. But the deal’s triple-B bonds priced at LIBOR plus 270 basis points; well inside triple-B rated tranches of conduits, which priced that month in the area of LIBOR plus 500 basis point.

At the top of the capital structure, “buyers want to get paid more than a conduit because the issues are privately placed and have no diversity; but lower down the credit curve, people are paying up because they like the ability to look at the one asset, and they like being able to get paid a very good spread relative to other markets,” explained one market source.

Historically single asset, large loan deals haven’t been a large part of the CMBS market.  Vanderslice calculates that these deals made up around 5% of total dollar volume during the boom years of 2005, 2006 and 2007, when CMBS issuance surpassed the $200 billion mark.  At the time, he said, “it just didn’t make sense” to securitize a single large loan because conduit deals were so big they could readily absorb larger loans. “You would typically get $5 billion to $6 billion conduit deals, so you could easily fit in a loan that was 10% of this large pool.”